Divergence Analysis
Figure 9.35 Bull Setup as Continuation at the Second Higher Wave Degree.fund. Price confirmation of the setup is seen at point C, where price violates a
couple of price barriers in the form of a downtrend line TL1 and 10‐day sim-
ple moving average. The trader looks to initiate a long position at the break
of either price barrier, as the current larger trend is expected to reverse to the
upside. We also see the stochastics in an overbought position prior to price
confirmation, which is bullish for the fund. A more aggressive entry would be
one where a trader initiates a long position at the break of the high—at point
D—of the lowest bullish candlestick, in proximity to the area where channel
projection anticipates a bottom. The initial stoplosses are positioned just be-
low the low of the lowest candlestick, for all entries.
With respect to wave degrees, it should be noted that if the prior larger trend
was originally to the upside, then this bull setup is expected to eventually resume
the original prior larger trend. In Figure 9.35, we see the current larger trend re-
verse twice in a bull setup at points 1 and 2 after penetrating the lower trough and
higher peak respectively, establishing a continuation of not only the prior larger
trend, but also of the trend that is one wave degree higher than the subsequent
larger trend, referred to in Figure 9.35 as the second higher wave degree.- Reverse Bearish Divergence also occurs when only price, and not the sup-
porting data series, is making equal or lower peaks. But in this case, price is
expected to continue to make lower peaks and troughs, establishing the subse-
quent downtrend at the next higher wave degree. The underlying rationale for
bearishness is as follows: although rising peaks in the supporting data series
indicate increasing momentum, price still fails to rise above its previous peak,
which is potentially bearish for price. (Any astute reader will immediately re-
alize that this will lead to definitional inconsistencies when the same rationale
is applied to standard divergence. This apparent contradiction will be dealt
with shortly.) This type of divergence may also be likened to a failed Bull
Setup, although trying to determine how much of a downside price excursion
is required in order to invalidate the setup is subjective at best. Price moves