Applying Fractal Chaos Oscillator to Trading
In trading, fractals are called lagging indicators, that is they can form a graph
with a certain lag, because a longer period of time is needed in order for a trend
to be detected. Traders use fractals to determine reversals in market trends, and
if a reversal is spotted, an important one that is, it will be spread on a high
number of bars. If the trend change is negligible, then it is not worth taking into
consideration and the trend will be unchanged.
Basic fractals have five bars or more. One can identify fractals as follows:
- The highest value from a determined period of time, enclosed on both sides by lower
high values is called a bearish turning point.
- The lowest value on a determined
time period, enclosed on both sides by higher low values is called a bullish turning
Fractal Chaos Oscillator Indicator or FCO “goes back in time” depending
on the time interval selected by the trader and checks the choppiness of the market
versus its trendiness and expresses it in the form of a numeric value. In choppy,
variable markets, the indicator tends to return to 0. In markets that follow a trend,
the graph of this indicator becomes abrupt and resembles the “alligator’s
teeth” and essentially furthers itself from the 0 value, be it in a negative
direction or a positive one.
The value of Fractal Chaos Oscillator is calculated as the difference between the
most subtle movements of the market. In general, its value moves between -1.000
and 1.000. The higher the value of the Fractal Chaos Oscillator, the more one can
say that it follows a certain trend – an increase in prices trend, or a decrease
in prices trend.
Being an indicator expressed in a numeric value, traders say that this is an indicator
that puts a value on the trendiness of the markets. When the FCO reaches a high
value, they initiate the “buy” operation, contrarily when the FCO reaches
a low value, they signal the “sell” action. This is an excellent indicator
to use in intra-day trading.
Fractal Chaos Oscillator vs. Fractal Chaos Bands Indicator
Similar in name, the two indicators are relatively similar in their interpretation
as well. They both reflect the trendiness of the markets, but in different ways.
On a chart, the fractal chaos bands indicator resembles a band, comprised by the
two lines that are plotted through the highest and lowest values of the market on
that time period. The flatter the band is, the choppier the market. The more chaotic
the band looks, the trendier the market is.
Fractals are extremely powerful tools when transformed into financial indicators
or used for forecasting of price movements. The most common usage is with the "Alligator
indicator"; however, derivative of this method are the Fractal Chaos Bands Indicator
and the Fractal Chaos Oscillator. They both reproduce the predisposition of the
market on a given time period, but the Bands indicator is a visual indicator, the
trendiness of the market can be seen on a chart – and looks like an alligator’s
teeth, whereas the Oscillator is a logical indicator, expressed through a numeric
value. The results of the oscillator can be seen on a chart as well, but they have
exact value correspondents. The trading rule is: buy when the numeric value of FCO
is close to 1 and sell when it’s close to -1.