V. 12:9 (370-375): The Bandpass Indicator by John F. Ehlers

The Bandpass Indicator by John F. Ehlers

Here's an indicator that can be adjusted to be a leading indicator of market reversals based on the cycles in the price data, presented by a longtime S&C contributor.

The bandpass indicator is an oscillator-type indicator. It makes full use of the digital computational power of your computer and therefore is superior to conventional oscillators such as the relative strength index (RSI) or the stochastic indicator when the market is in a cycle mode. If you were to stop and think about what an oscillator does, you would conclude that it performs two functions: it detrends the price, and it does some smoothing.

Now, these functional characteristics are true regardless of how the oscillator is constructed in the time domain. Thinking of the functions in terms of frequency: The oscillator removes the unwanted low-frequency components (detrends) and removes the unwanted high-frequency components (smoothes). Because the undesired frequencies are rejected, oscillators pass a band of desired frequencies in their transfer response. If oscillators pass a desired band of frequencies, why not attack the analysis problem head-on in the frequency domain?

That's exactly what the bandpass indicator does. The bandpass indicator rejects the undesired frequency components and allows only the desired frequency components to pass. The indicator differs from conventional oscillator filters in that, by working solely in the frequency domain, the bandpass indicator's sophisticated digital filters can be used to sharpen the boundary between the desired and undesired frequency components. As a result, superior detrending and smoothing is produced with no penalty in increased lag.