Home, choices, Barometer, timing, backtest, SIGNAL, buy, sell, watch
Buy and Sell Signals
Trend reversals in individual stocks are signals for buying and selling. Trendlines and moving averages generate inferior signals.
Trend reversal signals
Establishing a new uptrend can be viewed as a buy signal, and establishing a new downtrend can be viewed as a sell signal. The threshold for establishing a new trend is defined by setting a minimum trend length.
A good threshold would give ample buy and sell signals. However, there would not be so many buy and sell signals that holding periods would be too short to provide the tax advantage accorded long-term capital gains.
After some preliminary experimentation, a threshold of 30 boxes seemed about right. To verify this threshold, daily closes of 15 stocks chosen at random from the S&P 500 Index were analyzed. The time period was five years, from 11/24/2006 to 11/23/2011. The results are summarized below:
Most stocks had an uptrend greater than 60 boxes, which is the minimum for profit with 30 box buy and sell signals. Many uptrends lasted long enough to provide long-term capital gains.
Trendline signals
Some chart analysts use trendlines to make forecasts. This is unwise because trendlines are constructed directly from the chart, which is mostly noise.
Moving average signals
Intersections between the chart and a moving average are unreliable, even though a moving average filters out some of the noise. Signals based on two moving averages are worthy of investigation because both averages are relatively free of noise.
A buy signal results when a moving average rises above a longer-term moving average. A sell signal results when a moving average falls below a longer-term moving average.
Daily closes for the same time period of the stocks used in the trend reversal analysis were analyzed with 30 box trend reversals and with 50, 100, and 200 day moving averages: ABT, AXP, CEG, DNR, DUK, FIS, GPC, GPS, HNZ, PGN, PGR, PWR, RSG, STZ, and UTX. The gains are in US$, not boxes:
Trend reversal signals are less frequent than any of the moving average signals, so holding periods are longer and more likely to result in long-term capital gains. Total gain from trend reversal signals is greater than total gain from any of the moving average signals. Furthermore, none of the moving average signals performed significantly better than the others.
Of course, results will differ with other stocks, other time periods, other ways of calculating moving averages, and other ways of interpreting moving averages. I have not conclusively shown that trend reversal signals are superior, but I have convinced myself that they are and do not intend to pursue this matter further.