A normal or Gaussian distribution is a statistical function that expresses all the possible values and probabilities that a random variable can occur within a given range.
The problem is that market prices usually do not conform to this statistical function of predictability, often creating price reversal signals when it’s too late to respond or missing the signal entirely.
To create a system where market price data can be converted into a Gaussian normal distribution statistical function, the Fisher transform indicator was developed in 2002 by John Ehlers, an author of four books on advanced technical trading.
The Fisher transform indicator’s graph depicts a range between +1 and -1. If the waveform crosses either the +1 or the -1 signal lines, a change in trend is getting ready to occur.
Fisher Transform | Indicator Series Click To TweetIf the waveform crosses above and then dips below the +1 signal line, it’s probably time to sell because the price has reversed and is now dropping. Conversely, if the waveform crosses below and then rises above the -1 signal line, this signals the time to buy because the price is now rising. (Click this link to access an economic calendar for your trading strategies)
Pros To Using The Fisher Transform Indicator
- This indicator is considered a leading indicator rather than a lagging indicator. A leading indicator clearly calls attention to price reversals happening in real-time, whereas the lagging indicator provides information that is already known.
- Since extreme price changes rarely occur, by using this indicator, those movements can be much more easily determined.
- The formula for this indicator is typically applied to price but can be useful to other indicators.
Cons To Using The Fisher Transform Indicator
- This indicator is prone to whipsaws, sudden changes in direction, which generates false signals and could result in trading losses. This indicator should be used in combination with other indicators to confirm signals.
- Market prices are not normally distributed so attempting to conform the asset prices in this way is typically flawed and can produce unreliable signals.
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