Fisher Transform

Definition

The Fisher Transform is a technical indicator that converts price to Gaussian normal distribution and signals when prices move significantly by referencing recent price data. Information provided by the Fisher Transform can help identify reversals or big changes in asset pricing. Ultimately, this indicator can be used to determine trends and underscore key price moves within said trends.

History 

The Fisher Transform was developed and first introduced by J.F. Ehlers to act as a technical analysis indicator that spots major price reversals.

Calculations

The formula for Fisher Transform is as follows:

Fisher Transform = ½ * ln(1 + X / 1 - X)

Definition:

ln= natural logarithm

X= the transformation of price from -1 to 1

1. To calculate Fisher Transform, first choose the look-back period you would like to examine (e.g. nine periods). This will be how many periods the indicator will be applied to.
2. Once you have selected your period, go ahead and convert the prices of the periods to values between -1 and +1. Don’t forget to input for Xand complete all calculations within the brackets of the formula.
3. Then multiply your results by the natural log.
4. With this new result, multiply by 0.5.
5. Repeat the calculation process as each period concludes and convert the most recent price to a value between -1 and +1 (based on the most recent periods). Now you’re all set.
6. To finish, add/subtract the calculated values from your previous calculated value. Now you’re all set.

Takeaways

Turning points become a lot clearer with the use of Fisher Transform and its ability to track asset prices. In addition, while some traders choose to look for more dramatic readings that signal to price reversals, others may find it more beneficial to track Fisher Transform directional changes. Although the Fisher Transform is usually applied to asset prices, it can be applied to other indicators as well.

What to look for

As mentioned in the Definition section, the Fisher Transform is a technical indicator that converts price to Gaussian normal distribution, often including data that is not usually normal distributed (i.e. market prices).This causes data to present itself as more uniform, with less extreme changes in order to determine true price reversals in the market.

This technical indicator is what some would call “unbounded,” and therefore it is possible for extremes to occur long-term. The basis of what constitutes an extreme is determined by the historical readings of the asset you are working with. Reading values differ depending on the asset you’re analyzing. Asset readings are important because they have the potential of signalling a reversal, which can be confirmed or denied by Fisher Transform directional changes.

The Fisher Transform will often have a signal line attached. It is essentially the Fisher Transform’s value moving average and moves slower than the traditional indicator’s line. It is often used when the Fisher Transform moves across the trigger line.

Many traders opt to use the Fisher Transform with other indicators that specifically map out trend analysis. This is because the Fisher Transform sends out many different trade signals, some of which are not profitable in the slightest. By pairing it up with other indicators, traders get a more complete picture on when to acknowledge and act on buy and sell signals.

Keep in mind that the Fisher Transform indicator should not be confused for Bollinger Bands. They may look different on a chart, but both are rooted in distribution of asset prices and can often be confused. One way to easily tell them apart is to remember that the Fisher Transform appears on a price chart as a separate indicator, whereas Bollinger Bands are distinctively overlaid over the price.

Limitations

As mentioned in the What to look for section, the Fisher Transform can often send out many trade signals, causing a bit of congestion when all it is trying to do is make reversals and extreme change in price easier for traders to identify. This can become quite an issue, which is why pairing it with another indicator is highly suggested.

Summary

The Fisher Transform is an indicator that converts price to Gaussian normal distribution and alerts traders of price movement and changes in trend by referencing recent price data. The information that is provided by the indicator can help traders determine when is right to buy and sell, based on reversals or big changes in asset pricing. The Fisher Transform is best paired with other trend analysis indicators to help identify price trends and highlight key price moves of an asset within the market.