Triple screen trading system: the Alexander

Elder way of trading

This triple screen trading system was developed by Dr Alexander Elder.
This is a mechanism which goes through the practical examination of a stock in three different
stages.
In order to qualify for trading, a stock must pass through all three different stages with positive
marking.
Step 1
It is found that if a stock does not qualify for any of the stage; it does not qualify for the next
step.
We must keep in our mind that all the three stages must positively allow the stocks to get ahead.
No compromise in the process of selection is accepted. This process requires the first two stages
of the study on a weekend. It means that one can start examining this process only after the
weekly closing is over.
Hence, it is of no use to study this process in between the week.
Once the weekly closing is over, we should open the weekly chart and plot at least three trends
following indicators. They are as follows:
1. MACD
2. Directional system
3. 13 and 30 Moving average
In order to make a positive marking, all the three indicators have to give confirmation. The ideal
situation would be as follows-
a. Both the lines in MACD i.e. solid line and the trigger line should be above zero and both
rising.
b. In the directional system, +DI is rising on the upside and –DI is falling on the downside and
ADX is in between the two and rising.
c. 13 and 30 weeks moving average line should be such that 13 weeks > 30 weeks and both are
rising.
If all of the above three are showing the positive sign, then we can reasonably say that the trend
is up. The trend identification process has to be on a weekend basis.
The examination report will allow us to take a positive decision.
If during the course of the examination, if any of the indicators is not dancing on the same tune,
then the entire process stands disqualified.
That is the reason that all three indicators must behave in the same manner and when all the three
gives a positive signal, then we will move to the second step.
Example
Let’s take an example to understand the first step. The below is the chart of Reliance Industries
and we can clearly see that the all the three i.e. 13,30 moving average, MACD and the
Directional system gives a positive buy signal in the weekly chart above 1250 levels (approx).
Step 2
The second step deals with the identification of the status of momentum.
In order to do such, we will open the daily chart, plot and take the help of stochastic only. We
should not forget that stochastic catches the short term momentum.
Let us now try to understand that the trend has been identified in the weekly chart with the
indicators which are laggard in nature.
Hence it may happen that although the weekly chart shows an uptrend it has started momentum
sometime back.
Hence it may happen that in the process the stock has reached already a short-term overbought
situation.
So even if the weekly chart allows a positive trend, the stochastic in daily chart might say the
other way round.
Here, we are actually making a combination of a trend that is in the direction and the momentum.
As we can see in the chart below that when we received the buy signal in the weekly chart, the
stochastic was in the overbought zone.
So we will wait for the short-term correction to fulfil the criteria of the second step. Accordingly,
the stock gave a correction and the stochastic travelled all the way to oversold zone.
Step 3
Once we have crossed the first two steps, the question of third step or the final step where the
action is required to be taken.
If the first scenario gives us a proper signal of the uptrend and stochastic has remained in the
falling or oversold condition, it means that the price has been falling and of course making a
lower top and lower bottom.
To take an entry for buy, we should allow the price to close above the top of the previous high
and of course, low has to be higher in comparison to the previous day.
Thus it will create a higher top and higher bottom which also confirms that the downtrend or the
correction is over and the price has started creating the higher top and higher bottom.
If this happens, stochastic will also turn for a buy signal. Needless to say that we will hold the
position trailing our stop to previous day’s low and will finally liquidate when the stochastic is
overbought.
In case of the downtrend in the weekly chart, we will wait for a selling decision when the
stochastic is up. Since stochastic is up, it means price was rallying in the nature of relief rally.
Once price breaks, the last day’s bottom and makes a lower top, the sell signal is triggered.
We will keep our position sold and trail our stock gradually to the downside where yesterday’s
high would be trailing stop. We can book the profit when stochastic is finally oversold.
Here, we will make our position when the stochastic rises above the oversold zone.
We will enter only above the high of the marked candle in the chart.
After the buy signal was generated, the stock gave a good 150-160 point rally and it’s very
important to keep trailing our stop loss in the process.
Bottomline
The same concept can be applied in combination of weekly chart and monthly chart where the
trend has to be decided in the monthly chart and stochastic to be applied in the weekly chart and
we will allow other rules as applicable.
Discover the Triple Screen Trading System
The Triple Screen Trading System was developed by Dr Alexander Elder and first appeared in a 1986
article in Futures Magazine. It utilizes multiple trading indicators as a means to filter out contradictory
trading signals. Elder maintained that no single indicator was up to the job of correctly and consistently
analyzing the complexity of the financial markets.

As he pointed out, different indicators may give you opposite signals for the same market. To try
and solve this problem, the Triple Screen trading system subjects every potential trade to three
tests. The trades that pass all three tests should theoretically offer better chances for profit than
those that fail one or more of the tests. So how does this method work in detail? Let's take a
look!
Indicators Used in Alexander Ray's Triple Screen Trading
System
It's a generally-accepted piece of theory in the field of technical analysis that trend-following
indicators don't work well when the market is range-bound, while oscillators don't perform well
in trending markets. In a range-bound market, oscillators will perform well, however, and trend-
following indicators are naturally-suited to trending markets.
The Triple Screen trading system combines trend-following indicators with oscillators in a way
that is designed to take advantage of their strengths, while filtering out those occasions when
they perform badly. Dr Alexander Ray recommended using the Force Index and the Elder-ray as
oscillators. He also suggested the Stochastic and the Williams Percent Range indicators as
oscillators that would work well with the system.
Another challenge when it comes to conflicting signals is that a trend really depends on which
time frame you are looking at. For example, if you are looking at a daily chart, the trend may be
up, but when you look at a four-hour chart, it may be down. The Triple Screen trading system
dictates that you consider three trend lengths, a concept that dates all the way back to Dow
theory.
These three trends are:
 The long-term trend — also referred to as the 'tide'
 The intermediate trend — also called the 'wave'
 The short-term trend — also known as the 'ripple'
The intermediate trend should be for the time frame you are aiming to trade with. The system
was originally designed to use a daily chart for the intermediate time frame. The long-term trend
can be seen on a chart of one-magnitude greater than the intermediate time frame.
For example, if you are aiming to trade on a daily chart, the long-term trend would be governed
by a weekly chart. The short-term trend would be one order of magnitude shorter. In our
example, this would be a four-hour chart. The concept of these different time frames play a part
in the Triple Screen method, as we will discuss in the next section.
The Method Used for the Triple Screen Trading System
As the name of the system suggests, there are three screens applied to each trade. The three
screens are as follows:
  First screen – analyses a time frame one order of magnitude greater than the chart you
plan to use to trade.This identifies the direction of the tide (the larger trend) with a trend
indicator.
 Second screen – applies an oscillator to the chart that you wish to trade in order to
identify the wave, which is a market movement contrary to the direction of the tide. This
is completed with a view to achieving an optimal entry point.
 Third screen – analyses the ripple and searches for short-term breakouts in the direction
of the tide using a trailing stop.
The Triple Screen trading system uses tight stop-losses on any opened position. Elder
recommended for long positions that you use a stop one tick below the low of the current or
previous bar (whichever is lower). For short positions, the stop would go one tick above the high
of the current or previous bar (whichever is higher).
First Screen
The first screen looks at the bigger picture. As we noted above, this is performed using a trend
indicator on a chart that is one order of magnitude longer than the time frame on which you wish
to trade. The original Triple Screen trading system used the MACD indicator for identifying the
direction of the larger trend on a weekly chart. You can use whichever trend indicator you feel is
best, however.
Once the first screen identifies the direction of the tide, this is the only direction in which you
will be allowed to trade when looking at your intermediate chart. So if your trend indicator
signals that it is an uptrend, you can only buy. If it says the tide is flowing in the direction of a
downtrend, you can only sell.
Second Screen
Once we know the direction of the tide, we are looking for a wave in the contrary direction on
our intermediate chart that will give us a beneficial entry. Let's suppose that you are looking at a
daily chart as your intermediate time frame, and the weekly chart shows that the larger trend is
upward.
You are now looking for a daily decline which would provide you with an advantageous
opportunity to buy the market. We would do this by searching for a buy signal from our
oscillator of choice on the daily chart. Any sell signals in this case would be ignored because the
uptrend from the first screen has already filtered those out.
Third Screen
We move to the third screen once we get agreement from the first and second screen: that is,
when the larger trend is up, and an intermediate decline has generated a buy signal from our
oscillator, or when the larger trend is down and an intermediate rally has generated a sell signal.
The third screen is a technique using a trailing stop to determine the specific entry point.
If we are aiming to go long in the market with a daily chart used in the second screen, we use a
trailing buy-stop one tick above the high of the previous day.
If we are aiming to go short, we use a trailing sell-stop one tick below the low of the previous
day. Let's suppose that the weekly trend is up, and a daily decline has issued an oversold signal
from your oscillator (i.e. a buy signal). You would then place a buy stop one tick above the high
of the previous day.
If the market resumes its uptrend and hits your stop, you will go long on the market. If the
market continues to decline, your stop will be deactivated. You would then trail your stop by
dropping it to one tick above the high of the day just passed. You would keep trailing until
activated, or until you see the weekly trend change direction.

The slope of the MACD histogram, which appears beneath the main price chart, indicates to us
the trend of the tide. An upward slope suggests an uptrend, and a downward slope suggests a
downtrend. A key buy signal is when the indicator turns upward from beneath the centreline. A
key sell signal is when the indicator turns downward from above the centreline.
We can see in the graph below that the MACD crosses up above the centreline. We'll use this
period for our example and proceed to apply our second screen. We are using a daily chart for
our intermediate time frame. Below is a daily EUR/USD Forex chart with two oscillators
applied:

The first oscillator is a two-day EMA Force Index. The second oscillator is the Stochastic
oscillator, using default values. The Force Index displays buying opportunities when it falls
below its centreline, and selling opportunities when it rises above the centreline. The Stochastic
oscillator displays buying opportunities in oversold areas (below 30) and selling opportunities in
overbought areas (above 70).
As the weekly trend was up in May, we can only pay attention to buy signals during this period.
At this time, we have the Force Index below 0, meaning that we could proceed to our third
screen if this was the oscillator we were using. The RSI, however, does not show an oversold
condition at this time. If we were using an RSI, we would take no action.
For our third screen, if we were following the buy signal from the Force Index, we would then
place a stop to buy. We would keep trailing the stop lower until either we open a position, or the
weekly trend changes.
If we open a position, we use a tight stop-loss order to manage our risk. This would go one tick
below the high of the trade day or the previous day — whichever is lower. Conversely, for short
positions, you would place a stop-loss one tick above the high of the trade day or the previous
day — whichever is higher. If the market moves in your favour, you should move the stop-loss
to your break-even level.
From there, trail the market to protect 50% of your running profits. A good way to decide
whether this system works for you is by backtesting.

Triple Screen Summary of Trading Action

Larger Trend Intermediate Trend Trade Action Method
↑ ↑ None -
↑ ↓ Buy Trailing buy-stop
↓ ↓ None -
↓ ↑ Sell Trailing sell-stop