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Gann Analysis – an Unusual Technical Approach to the Stockmarkets
It is fair to say that some modes of technical analysis of the stockmarkets move beyond the purely mathematical and one of these is Gann analysis which has many devotees around the world despite its more esoteric appeal.
The body of work that has built up around WD Gann began with his own series of predictions in the early part of the 20th century which were uncannily accurate, and he soon built up a big following as one of the first real technical analysts. His analysis combined price and time studies to make what he described as the market time factor, and he believed that all market movements could be defined by a series of mathematical laws and the workings of the natural world.
The basics of Gann analysis
There were three starting rules:
1 Price, time and range are the only three factors to consider.
2 The markets are cyclical in nature.
3 The markets are geometric in design and in function.
Gann had three areas of prediction: His price studies included support and resistance lines, pivot points and angles, many of which are standard analytical techniques in modern day technical analysis. His time studies sought out historically reoccurring dates, and these were derived by natural and social means, which was more subjective. He also studied patterns to seek about potential market swings using trendlines and reversal patterns.
Price, time and the construction of Gann Angles
What Gann sought to do was to set out a series of geometric angles that could be used as rising support and resistance levels based on natural laws, and these are now known to analysts as speed lines.
Much of his work was empirical, which meant he developed the analysis based on experimentation and observation, but he was committed to the central 1*1 price against time line measured as a 45 degree line on a chart.
The second point was where to start the lines, and Gann discovered that major highs or lows made excellent starting points. He also then moved onto horizontal support and resistance levels using what he called "vibrations" or "price swings”, and again his evidence was empirical in nature using mathematical theories such as Fibonacci retracements (which we have discussed elsewhere).
Once the relevant price and time points were observed on a chart, Gann then drew in (modern software systems do this automatically) several important lines, of which the two most common patterns were the 1X1 line, the 1X2 line (which is a more gentle rate of ascent, and the 2X1 line (a steeper rate of ascent).
The idea would be that if the price of a stock broke through the ascending 1X1 line, the odds favoured a move down to the 1X2 line, and vice versa.
Aswell as these lines, he worked out a series of subdivisions that could be plotted on a chart as follows:
1 x 8 = 82.5 degrees
1 x 4 = 75 degrees
1 x 3 = 71.25 degrees
1 x 2 = 63.75 degrees
1 x 1 = 45 degrees
2 x 1 = 26.25 degrees
3 x 1 = 18.75 degrees
4 x 1 = 15 degrees
8 x 1 = 7.5 degrees
The patterns could be drawn in an ascending manner from major lows or descending lines from peaks, and in both cases they could be used as support and resistance points at any time.
Because all markets were seen to be cyclical in nature, the longer the line could be drawn connecting points along the way, the more important its overall influence would be (some commentators still point out a Gann speed line rising from the major 1982 low in US equity markets that is still in place for instance).
Benefits of Using Gann Angles
The main benefit to stockmarket investors is that the important speed lines act as support and resistance levels that are different to other trendlines connecting a series of lows or highs. It is a very straightforward method of observing rates of change when various speed lines are inserted into the chart of a share price.
Some investors use pullbacks to a rising speed line as an opportunity to add to already profitable positions.
Where a speed line interacts with a horizontal line of importance, the combination of time and price becomes more important and Gann showed that these points often forecast major turning points in the future.
Drawbacks
As with any empirically based technique, Gann analysis works differently for each investor and each stock as it depends on what is observed. Drawing the speedlines is clearly different in each market due to the inherent variable pricing of stocks.
There is some scepticism that ideas based on natural laws are more astrological than mathematical, and many analysts have dismissed the theory as mumbo jumbo, along with fibonacci and Elliott wave theory for instance.
As with all technical analysis, though, there are no fixed right or wrong answers. It is not possible to predict the future, but it helps if one can add some element of probability theory to the analysis based on patterns of human behaviour, and Gann analysis does that.
A final point is that at the time, WD Gann had the edge until his theories became widely known, and of course was able to show stellar returns on his trades. Chaos theory and the speed of computer systems these days suggest any new edge is much harder to find and sustain in terms of absolute buying or selling points. CFD traders and other investors would always do better to adopt an overall disciplined approach to the investment process to succeed.
About the Author
Mike Estrey is the Head of Research for Blue Index, specialists in Online CFD Trading, Contracts for Difference and Online Forex Trading.
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