The Handbook of Technical Analysis + Test Bank_ The Practitioner\'s Comprehensive Guide to Technical Analysis ( PDFDrive )

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the hAnDbook of teChnICAL AnALySIS

5.3 Price and Trend Filters


The exact point of entry and exit, or breakout and reversal, is determined by the type
of filter and the extent to which it is employed. A trader can initiate trades based on in-
traday breakouts without the use of a filter, but that will not be an effective approach
as it would make backtesting virtually impossible, rendering a profitable trading per-
formance unrepeatable. There are three broad categories of filters, namely:

■ (^) Price based
■ (^) Time based
■ (^) Event based
The entry trigger characteristic associated with each category of filter is as
follows:
■ (^) Price‐based filters indicate the exact price of entry but do not indicate when
an entry will be initiated.
■ (^) Time‐based filters indicate the exact time of entry but do not indicate the price
at which an entry will be initiated.
■ (^) Event‐based filters do not indicate the exact price or time of entry until an
event has occurred.
Within each broad category of filters, there are subcategories, namely:



  1. Price‐Based Filters
    i. Absolute Measure


■ (^) Fixed price excursion
ii. Relative Measure
■ (^) Percentage of breakout price
iii. Volatility Measure
■ (^) Multiples of average true range
■ (^) Multiples of standard deviation



  1. Time‐Based Filters
    i. Duration of N‐closed bars

  2. Event‐Based Filters
    i. Algorithmic Filters


■ (^) Specific sequence of closed bars
■ (^) Sequence of new highs or lows
ii. Event-Based Measure
■ (^) Closing price violation
■ (^) Barrier retest after a confirmed breakout
See Figure 5.30.
There may be scenarios where two‐stage filtering may be required in order
to contain and limit the maximum risk allowable per any single trade, under the
rules of money management. Without controlling the maximum risk allowable
per any single trade, the trading system may eventually experience risk of ruin.
This is why price‐based filters are the preferred mode of filtering.

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