We often hear that the key to trading success is discipline and staying grounded in a solid process. This is true, but it is only part of the truth. If we were disciplined in doing the same things as others, we would simply be more consistent in achieving modest returns. Having worked with many traders and trading companies over the years – and especially having been involved in recruiting traders at those firms – I can confidently say that distinctively successful traders look at the markets in distinctively unique ways. Not only do they have better answers; They ask better questions. Extraordinarily successful traders look at things differently than ordinary traders and look at the markets in different and distinct ways.
An important start towards enhancing our uniqueness is obtaining new datasets. In stock market trading in general, one data set I've found promising is percentage equity within each sector Trading above different moving averages. (Data from the excellent Barchart.com website). So, for example, I track the percentage of stocks in the Energy sector (XLE), Consumer Discretionary sector (XLY), Consumer Staples sector (XLP), Healthcare sector (XLV), etc., that exceed the special 20-day period It has moving averages. This information tells us not only whether the overall market is strong or weak, but also which one Pieces Markets were particularly strong or weak.
Collecting new data enables us to ask new, and sometimes much better, questions.
So, for example, what have we seen moving forward in the overall market (SPY) when consumer discretionary stocks significantly outperform or outperform consumer staples stocks? Is there unique information in relative Expansion of strength and weakness?
To be sure, when the percentage of consumer discretionary stocks above their moving averages is much larger than the percentage of consumer discretionary stocks over the past three years, we see noticeably weak returns over the next five trading days in SPY, but particularly strong returns over the years. The last three. The next 20 days. Interestingly, this is also the pattern we see after unusually strong breadth moves in the overall market: a tendency to consolidate/decline in the next few days, followed by upward momentum. It makes sense that relative breadth among consumer discretionary stocks would show such momentum, as investors rely on the kind of economic growth that supports discretionary spending.
By contrast, when a large percentage of utility stocks trade above their 20-day moving averages, the next 20-day returns on the SPY are negative, compared to the strong positive returns when a few utility stocks trade above their 20-day moving averages. . -Day averages. The flight to the safety of yields was not a promising indicator of medium-term returns for the market as a whole.
What about when traders move aggressively into penny stocks? When the number of stocks in the SP 600 small cap index trading above their 20-day moving averages was very high, the next 5-10 day returns in the SPY were negative, before later rising significantly. Again, this is a similar pattern to that observed with broad trends.
And the current market? We have seen strong breadth among industrial stocks (XLI) with the vast majority of stocks trading above their 20-day moving averages. Interestingly, over the past three years, this has resulted in a short-term following in the SPY, but relatively weak returns over the following 20-day period. And the strength of the recent expansion among real estate stocks (XLRE)? This has also been linked to relatively weak SPY returns over the next 20 days. These developments, combined with the recent tightening of XLY's outperformance over XLP, have me cautious in the market. Notice how the pattern of strength and weakness across sectors provides multiple perspectives on the overall market performance as well as the performance of each sector. When the weight of historical evidence lines up with what we see in current price action, we have the makings of a promising trade.
This is just one example of how you can develop distinctive returns by studying distinctive market information. I also collect databases of stocks that have made new highs and lows on a one-month and three-month basis; Stocks that display buy and sell signals on various technical market indicators; etc.. They are all ways to understand when movements tend to go in the opposite direction and when they tend to continue. Trading success starts with looking at unique things, asking unique questions, and relying on objective data for the answers.
In-depth reading:
Trade with breadth, strength and momentum
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