I have been focusing on providing a series of in-depth, educational articles to provide a foundation for future commentary, but the economic news was so bad last week that I felt compelled to address the current market environment. The following post provides an overview of the major economic releases from last week as well as my current summary market indicator score.
From the high in 2000 to the low in 2002, the NASDAQ 100 index lost 83% of its value. It has never recovered its losses. From 2008 to 2009, the S&P 500 index lost 57% of its value (peak to trough). Most investors went along for the ride. Even worse, some rode the market down and then sold at the bottom - when the pain became too much to bear. Tragically, many never reentered the market.
The easiest way to avoid catastrophic losses is to always trade in the same direction as the price trend. If we always sell our positions when an uptrend ends, then we can prevent severe losses in our portfolios. Unfortunately, we cannot avoid all losses, but we can take steps to ensure those losses are recoverable.
The tricky part is knowing when an uptrend has ended. This article will demonstrate a simple, objective way to draw trendlines and explain how you can use those trendlines to avoid serious losses in your portfolio.
Consistently picking individual stocks that will generate excess returns is hard, but most investors make it much more difficult than necessary. There are a number of simple, fundamental stock screens that have generated historical returns of 20% to 40% per year. This article will document the results for several of these screens and explain how they could be used in practice. If you buy individual stocks, the screening information described below should help you significantly enhance your investment process and improve your future returns.
Knowing the historical seasonal tendencies of our trading instruments can dramatically improve our returns, but how much weight should we assign to seasonal trends? What should we do if our other indicators are bearish and the historical seasonal trend is bullish? Should we still establish a bullish position? Should we do the trade, but reduce the magnitude of the trade relative to our normal position size? How do we make these decisions?
In some environments, the impact of abnormal events will swamp the normal effects of seasonal supply and demand factors. When those events occur, we should reduce our emphasis on seasonal trends. This article will introduce a simple and objective technique for evaluating recent return performance relative to historical seasonal trend patterns.
Analyzing the technical and/or fundamental characteristics of an individual security is obviously a requirement before investing. However, very few traders go the extra mile and evaluate the characteristics of the market sector as well. Using sector confirmation can help you identify trades with the highest probability of success, which should significantly increase your percentage of winning trades.
Normally, sector analysis means evaluating the recent price performance of the sector. However, in this case it means assessing the commitment of traders (COT) data at the sector level. COT data is one of the most valuable trading resources that I have found. If you would like a refresher on analyzing COT data, please revisit my earlier article "Trade With the Experts." Below you will find an explanation of how to use COT data at the sector level to confirm your individual futures trades.
Relative strength investing has a proven track record of success. Most traders have heard the term, but know very little about developing or trading strategies based on relative strength. The concept is simple: buy the strongest securities and sell the weakest securities. This brings up the obvious question: how do we define the strongest and weakest securities?
I recently read about an interesting new relative strength indicator in a May 2012 Active Trader article titled "The Efficient Rotation Strategy," written by Volker Knapp. Knapp used the Efficiency Ratio (ER), which was developed by Perry J. Kaufman and explained in his 2005 book New Trading Systems and Methods, to implement a rotational strategy that earned a 430% return from February 2002 to February 2012. Those results may seem incredible, but are not uncommon for relative strength rotational strategies. This article will examine Kaufman's indicator in more detail and suggest some improvements. Various applications of this indicator will also be discussed, including Knapp's rotational strategy. Continue reading
As traders, there are very few things we know with certainty. But there are several factors that we can forecast accurately - even years in advance:
All of the above events (and many others) occur at regular seasonal intervals and they all affect the natural supply and demand cycles in the financial and commodity markets. How can we harness the power of these seasonal tendencies to improve our investment performance?
Use Relative Strength to Identify Market Trends
Relative strength rotational strategies have a proven track record of success, but the potential uses of relative strength extend much further than security selection. One of my favorite techniques is to use the relative strength of two different indices, futures contracts, or ETFs to identify major market trends.
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