the hAnDbook of technIcAl AnAlySISaction plotted on the price chart does not represent a valid or meaningful
overlay indicator, and as such does not provide support and resistance. For
example, a standard moving average convergence‐divergence (MACD) or rel-
ative strength index (RSI) oscillator plotted on the price chart itself will not
interact with price in any meaningful way. Conversely, overlay indicators plot-
ted on window oscillator action do represent a valid and meaningful overlay
indicator, and as such provide a valid barrier to oscillator action. For example,
an overlay indicator such as a Bollinger band plotted on an RSI window‐based
oscillator would indicate levels of overbought and oversold in the RSI. Finally,
there are four types of overlay indicators, namely:
A. Numerically based overlays: These overlays forecast future price barrier
levels mathematically. For example, a Fibonacci upside price target based
on 161.8 percent expansion of the range AB from C is calculated as C +
(1.618 × AB).
B. Horizontally based overlays: These overlays forecast future price barrier
levels based on prior resistance and support levels. Forecasts are therefore
independent of time, that is, they do not vary with the passing of time. Price
gaps (rising and falling windows) are also a horizontal overly indicator of
potential future support and resistance. Although such forecasted reaction
price levels do not vary with time, it is important to note that such reac-
tion levels may still be invalidated, especially when breached a significant
number of times. (It should be noted that some numerically based indica-
tors such as Fibonacci ratio and Gann’s Square of Nine price projections
may also be classified as horizontally based overlays, unlike numerically
based indicators such as moving averages and Bollinger bands.)
C. Geometrically based overlays: These overlays forecast future price barrier lev-
els via the drawing of diagonal trendlines or lines that are projected from
particular peaks and troughs, also referred to as price inflection points. Since
they are diagonal, forecasts of potential barrier levels based on these overlays
will vary over time, and the forecast of potential barrier levels will depend
on when price tests these overlays. In other words, the forecasts of potential
future price barrier levels depend on the geometry of the barrier created.
D. Algorithmically based overlays: These overlays forecast future price barrier
or breakout levels based on a specific sequence of bar or candlestick ac-
tion. Some examples include two‐bar breakouts, Guppy’s count back line,
and DeMark’s TD sequential indicator.
- Window oscillators: These are mathematically derived indicators that are nor-
mally based on open high low close (OHLC) data, volume, and open interest.
There are two types of window oscillators, namely:
A. Bounded oscillators: Values or readings of window oscillators that range
from 0 to 100 percent (we say that the oscillator has been normalized).
The advantage of using a bounded oscillator is that it provides a mean-
ingful way of comparing relative levels of overextension, that is, relative
levels of overbought and oversold, between different stocks or markets
over the same number of periods. The main disadvantage is that during
strong trend action, the values or readings tend to remain at overbought