THE HAnDbOOk Of TECHnICAL AnALySISAnother way to use concatenate charts of individual futures contracts is to
raise or lower the previous contract price at expiry (or at a certain N number
of days before expiry) to match the new contract price. This is referred to as
back‐adjusting, and it essentially removes the price difference or spread between
contracts, creating a continuous flow of prices between the individual contracts.
It is advantageous insofar as it allows for the proper and meaningful application
of technical analysis. In addition, back‐adjusted continuous charts always display
the current price in the market and may therefore be used for trading purposes. It
is also conducive to back and forward testing of trading strategies. Unfortunately,
as a result of back adjusting, past prices do not reflect the actual traded contract
prices during those periods. As such, past prices associated with significant peaks
or troughs will continually change, as prices are back adjusted to match new
contracts. In Figure 3.39, we observe that price peaks and the OHLC readings for
November 7, 2011, differ between the continuous and the actual December 2013
Gold contracts.
Figure 3.40 shows how back adjusting is done. We observe the March con-
tract expiring at $110. Since the June contract is trading at $120, the March
contract is raised so that its expiration price matches the new price that the
June contract is trading in the market. This has the effect of raising the histori-
cal prices associated with the troughs in the March contract from $80 and $90
to $90 and $100 instead. Once the June contract expires, the process repeats
and the entire series of prices are once again raised or lowered, according to
the price that the September contract is trading at in the market. If the entire
figure 3.39 Identifying Price Discrepancies between the Continuous Daily Chart of
Gold and the December 2013 Gold Contract.
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