Tuesday, May 6, 2014

CV: Examples of TA



I have outlined how we can spot market plunge using TA and I use it to monitor the market every three months or so (recommend to do it every month). Here is an example on how to use it to trade individual stocks. I have to admit I do not use TA that much on individual stocks and clearly I am not an expert in TA. If this article and the last two stir up your interest, read more books or attend seminars / classes on TA. Personally I prefer to seek fundamentally sound companies at bargain prices and wait for their full appreciation. It is only me.

TA is very useful for momentum and day traders. With the rising volume, you can detect while stocks are traded by managers of mutual funds, hedge funds, insurance companies and pension funds, and profit by riding on their wagons.

Some stocks are good for TA. Usually they are larger companies with above-average volumes and are fundamentally sound.  Let me pick CSCO (a cyclical stock) for illustration. I bought it several times in 2012 but save it for the long term. This is quite different from what traders would use the following information for.

The green line is 50-day simple moving average (SMA) for the following chart using one year data.

If it does not display clearly on a small screen, type the following on the browser on your PC.

Buy the stock when it is above its SMA and sell when it is below. Following the chart would make good money based on this simple rule. Sell on May 1, buy back on around August 1, and so on.

Not all stocks follow this profitable pattern. Fundamentalists may try to pick the bottom in late July while chartists pick the bottom later. The chartists have an advantage to stay away from stocks in their downward trend.



Table: CSCO   50-day SMA       Source: Yahoo!Finance

We can improve the trades by:
·         Use different moving average in number of days (50 in this example) and other indicators such as EMA (a moving average that weighs higher with recent data). It may prove accuracy and/or cut down the number of trades.

·         Instead of selling the stock for cash, consider selling the stock short. Selling short is not for beginners for sure.

·         The accuracy is usually improved by a separate chart for its sector and another one for the market. For CSCO, you can use an ETF for network companies and SPY (or similar ETF) to represent the market. In theory, when both the stock, the sector that the stock is in and the market all move down, it has a high chance to move down, and vice versa.

We use 50 days (in SMA) for the stock, 90 days for the sector ETF and 350 days for SPY.

TA is not for most fundamentalists but it should be used

For a bargain hunter like me, TA would not benefit me for picking stocks at the bottoms. I would try to pick up CSCO with prices ranging from 15-17 and all below the moving average line that TA would not show me a Buy signal. However, for very short-term swing trader TA is a Godsend.

To me, TA is good indicator for growth and momentum for short-term traders. Some fundamentalists may use TA for entry and exit point. It is good for ‘Buy High and Sell Higher’. One’s opinion.

In selecting a tool, you have to understand how, why to use it and whether it fits your investing style. I use TA for market timing for the entire market rather than on individual stocks.

TA is good indicator when a value stock is trending up in a rising market and a rising sector that the stock is in. Most of us cannot spot the bottom of a stock; I had but most likely they were due to luck. When a stock is moving up from the bottom, there is a good chance it will move further up. TA shows it and its volume confirms it.

Conclusion

Even a fundamentalist like me can benefit by using TA. This book touches the very basics of TA but the most useful TA indicators.

Besides monitoring the fundamentals of the stocks you bought once every 6 months, you should analyze their technical more often (1 month to 3 months depending on your available time).

Using TA for sectors


There are 3 uses of TA for sector rotation.

1.       Detect sector plunge and when to reenter the market after plunges.
2.       Regular use (usually after its recovery from a plunge).
3.       Detect market plunges and/or sector plunges.

#3 has been described in Chapter 2 and it will not be repeated here.  

The difference in #1 and #2 is in the number of days in SMA (Single Moving Average). Use 350 for sector plunge and reentry. 

Use 30, 60, 90 or 120 for regular use (i.e. after the reentry from a market plunge) depending on how frequently you rotate. If you rotate in 60 days, use 60 for the average of number of days. Since it is same as #1, it will not be demonstrated.


Exit / Reenter a sector ETF

To illustrate, the following example uses XHB (an ETF for the housing sector). Use the same chart for other sector ETFs such as VGK for Europe.

Produce the following chart by using Yahoo!Finance. Enter XHB and select Interactive Chart. Select SMA and 350 days. Select Max for ‘From’.


Source: Yahoo!Finance. XHB on 350 SMA.


·         Exit when the price falls below the red, single-moving average (the SMA) and enter when it is over the SMA. All the dates and prices are approximate and for illustration only.

·         I use Max for the period. It seems XHB starts in 2006. Let’s assume the chart instructed us to exit at $45 around 2006 and reenter on August, 2009 missing a loss of about $30 per share. Not too bad!

·         There are brief exits and reentries before 2012. I call it noises. The gains and losses are negligible. However, make sure you exit and also reenter. If you use 60 days instead of 350 days in this example, you have more noises. If you trade the ETF more often, then you use 60 or 90 days. It depends on your risk tolerance and your time. Sometimes the performance makes a difference, but not all the time.

·         From the end of 2012 to today (10-2013), it gains more than 40% compared to -32% for the period for buy-and-hold.  A difference of 62%! Even a difference of 10% would be great.

·         The chart works at least for this period.  It is every one’s guess whether it will still work in the future. I bet it will but as in life nothing is guaranteed.

·         When a housing stock, the housing sector (XHB) and the stock market all above the SMA, the stock most likely will appreciate (again nothing is guaranteed).

·         From my other chapters, the offending sector (housing and finance for 2007 market plunge) takes about two years to recover from the bottom. I interpreted the bottom was 10-2007, so the recovery would start in 10-2009. If you bought XHB in 10-2009, you would have gained about 100% today (10-22-2013).

·         Some sectors never recover such as the internet and some high tech companies in 2000. 

Now, it is your turn to try out the chart. This time, use 60 for the number of days in SMA.




Overbought and peaking


The following technical indicators could detect these conditions and a big plunge could be coming.  They are readily available in finviz.com. The predictability improves or confirms when the trade volume is far higher than the average.

1.       RSI(14). Relative Strength Index. When it is over 70, overbought condition may exit.

2.       SMA200. Single Moving Average for 200 days. When it is over 50%, be careful that the sector (or stock) may be peaking.

 

SLV SMA-200 Soucre:Yahoo!

On April 28, 2011, the stock price of SLV (an ETF for silver) was more than 50% above the SMA-200. Within 30 days, SLV plunged. It is similar in August 22, 2011. ‘Buy above the SMA and sell below it’ still works, but more profits can be made in detecting these conditions. 


Afterthoughts

·         We have discussed how to use TA to spot market crashes and individual stocks. TA can help us to determine a sector. For my purpose, I usually use 90-day moving average on an ETF for that industry.

When the TAs for the stock, its sector and the general market are all green (i.e. above its selected moving averages), most likely the stock will move up.

·         The big boys (hedge fund managers) moved their money into GOOG and AMZN solely to make a ton of cash when AAPL reached $700 and they will move their investment out of AMZN (too high value as of 1-2013) or GOOG back into AAPL.

Instead of fighting the big movers, join them by using the tool of TA. Make good money by winning the second place of a horse race.

·         A stock will always go up and down for more than several days in a row. Take advantage of the trend and make some quick money.

·         If all the following are above the single moving average (SMA) line, most likely (most and not all) the stock price will rise in next month:

1.       350-day SMA of SPY (representing the market).
2.       60-day SMA of the sector ETF that represents the sector the stock is in.
3.       30-day SMA of the stock and it passes our (or your) scoring system.

Most technicians use 20, 50 and 200 days for moving averages for stocks. To save you time, use finviz.com to obtain the % of the stock deviates from its moving averages. When it is positive, it is usually a buy.


·         Norman:
With cyclical dividend paying stocks, entry and exit points can be equivalent to yield.  For example buy CAT at 3% yield and sell it at 1% yield.

·         A book mentioned to me on TA: Stan Weinstein's book, "Secrets for Profiting in Bull & Bear Markets”.

·         If you are a customer of Fidelity, try the option to include all indicators in charting a stock.

·         When TA tells you to sell a stock, try to find the reasons by using google, SeekingAlpha, Yahoo!Finance board, calling the company, etc.

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