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Home, choices, barometer, timing, backtest, signal, buy, sell, hedge, WATCH Generating and Using a Watch ListIt is not possible to keep track of the thousands of actively traded stocks, so select trades from a manageable number of stocks on a watch list.A watch list should be generated just before the trading day to ensure that it is current. Twenty stocks are usually enough. Backtests show price trends persist and low-priced stocks underperform. Consequently watch lists for purchasing stocks or call options should include stocks in strong uptrends and exclude low priced stocks, and watch lists for selling short or buying put options should include stocks in strong downtrends. Determining stock trends is an onerous task without a systematic procedure. To ease the burden use online screeners to reduce the number of candidates, download price histories with a proprietary downloader such as Yloader, and calculate current trends with the BULKLOAD.BAS application. Screening for Stocks and OptionsAn assumption for stocks in strong uptrends is PEG ratio is a good measure of value. An assumption for call options is some of the most distant LEAPs are underpriced. An assumption for hedges is a stock with a high PEG ratio and a strong uptrend can collapse if the uptrend is broken. About 250 stocks with the lowest PEG ratios are selected for long stocks. About 500 stocks with the lowest PEG ratios are selected for call options. More stocks are selected for call options because most of them will not have the most distant LEAPs and some that do will have unacceptably high price ratios. The 250 stocks with PEG ratios that have the largest market capitalizations are selected for hedges. Most of them will be shortable and will have options that expire after the expiration of a negative January Barometer. Ideally, stock screeners should have price, PEG ratio, and market cap parameters. They should also be able to export data to eliminate keyboarding. The Java screener at finance.yahoo.com and the screeners at zacks.com (and nasdaq.com) and finviz.com meet these criteria. In March 2011, the Yahoo, Zacks, and FinViz screeners each had about 3800 stocks listed on the AMEX, NASDAQ, or NYSE with a minimum price of $5.00. With no limitation on listing or price, the Zacks screener had about 7600 stocks. These screeners have quirks. For example, Yahoo exports extraneous commas that cause spreadsheets to misalign data and Zacks can export many stocks for which price history is unavailable. Long stocksWith the Yahoo screener, set Current Price >= $5 and determine the range for PEG ratio, starting at 0.01, that reduces the number of stocks to about 250. With the Zacks screener, set Last Close >= $5 and PEG Ratio >= 0. Include Exchange in the view. After exporting, eliminate all stocks not listed on the AMEX, NASDAQ, or NYSE. Select the approximately 250 stocks with the lowest PEGs. With the FinViz screener, set PriceOver $5 and IndustryStocks only. Export the Valuation view. Select the approximately 250 stocks with the lowest PEGs. Call optionsThe procedures are the same as the procedures for long stocks except the targeted number of stocks is 500 instead of 250. HedgesWith the Yahoo screener, set PEG Ratio >= 0.01 and then set Market Cap to >= whatever reduces the number of stocks to 250. To unscramble the data delete all columns between Company Name and PEG, sort on the last column, cut the data in the last column and paste the data into the previous column in the same rows, and repeat if necessary. With the Zacks screener, set PEG Ratio >= 0. Include Exchange and Market Cap in the view. After exporting, eliminate all stocks not listed on the AMEX, NASDAQ, or NYSE. Select the 250 stocks with the highest Market Caps. With the FinViz screener, set IndustryStocks only. Export the Valuation view. Delete all stocks without a PEG ratio. Select the 250 stocks with the highest Market Caps. Finishing the watch listDownload the price histories of the stocks in the screener results, using the daily prices for the best resolution. At least two years of data should be downloaded to minimize the possibility that some of the current trend is omitted. Next, calculate the current trends. For long stock watch lists, select the stocks with the strongest uptrends. For call option watch lists select the stocks with the strongest uptrends, but only if they have the most distant LEAPs. A watch list is not necessary for individual hedgingonly direct competitors are candidates. A mass: hedging watch list requires these finishing steps:
Using a watch listTo find which security or securities to trade, start with the stock with the strongest trend. If it is disqualified, proceed to the stock with the next strongest trend until you find one that qualifies. Continue until you have found the number of securities you are seeking. For long stocks and call options, there would be a sell signal if the stock fell 30 boxes. To prevent being forced to sell quickly disqualify a stock if the current price is down 15 boxes or more, which is the top of the uptrend divided by 1.16. Disqualify a stock if it does not enhance diversification. Disqualify a stock if a chronological chart shows a weakening trend. For call options, disqualify a stock if its price ratio is relatively high. For hedges, disqualify a stock if it does not enhance diversification of the hedges. Disqualify a stock if a chronological chart shows a weakening downtrend, but not a weakening uptrend. There are no other disqualifications. It does not matter if the current price is near a limit because a hedge is not removed in response to a trend reversal signal in the hedge. Price ratios are irrelevant for the short-term options used as hedges. How not to generate a watch listMy strategy for generating a watch list has evolved over the years, and is still evolving. This example illustrates the phase when I believed that knowledge of economic and political trends is required to generate a superior watch list. The first step in generating the 2010 January 26 watch list was finding possibly undervalued stocks with the Java stock screener at finance.yahoo.com. There were 461 stocks with a PEG ratio from 0.01 to 1.00 and a minimum market capitalization of $100 million. The next step was eliminating all stocks that did not seem favorably situated with my understanding of global economic and political trends. Regularly reading The Economist provided me with some knowledge of these trends. Striving for high diversification eliminated more stocks. Where there were companies that competed directly, only one was retained. No attempt was made to diversify by geographical area because it would be foolish to invest in stagnant economies just to diversify. Some stocks of mineral extraction companies were added because I believed their reserves were probably worth more than their balance sheet figures. Finally, stocks I already owned were added, if they were not already included. The 62 surviving stocks became the watch list. The table below compares the performance of the 20 stocks with the strongest uptrends in the 2010 January 26 watch list to the performance of major indices. The Gains are from Jan 26 to Feb 26, Apr 26, and Dec 03:
Jan 26 Feb 26 Apr 26 Dec 03 Gains
Dow 10196.90 10321.00 11204.30 11362.40 1 9 11
S&P 2210.80 2234.22 2530.15 2579.35 1 13 15
NASDAQ 1096.78 1102.94 1217.28 1221.53 1 10 11
Watch list 0 7 5
The watch list greatly underperformed. I no longer inject my personal opinions into watch lists. I know enough about the stocks in a watch list to ensure I am diversified, but not much more. Seeking better watch listsBecause I was unable to find useful historical data for backtesting, I conducted real-time tests on advisory services, Motley Fool CAPS ratings, earnings momentum, revenue momentum, FinViz PEG ratios, Yahoo PEG ratios, and Zacks PEG ratios. As a result of these tests, I will give advisory services, Motley Fool CAPS ratings, earnings momentum, and revenue momentum no further consideration. However, I am continuing to investigate PEG ratios. Performances of the advisory services were surprisingly bad:
3 Mos Avg Gain 6 Mos Avg Gain
S&P 500 0 -16
Dow Jones Industrials 1 -12
NASDAQ Composite -1 -14
Ativo Research -5 -32
Channel Trend -9 -43
Ford Equity Research -2 -26
Ned Davis Research -12 -25
S&P STARS -1 -26
Thomas White International -1 -26
Zack Investment Research -4 -35
The Motley Fool CAPS ratings showed promise. Top-rated securities declined an average of 2.86 boxes, lower-rated securities declined progressively more, and bottom-rated securities declined an average of 6.08 boxes. However, CAPS ratings greatly underperformed trend and price parameters for the same securities. The 1000 securities with the strongest uptrends declined an average of 0.73 boxes while the 1000 securities with the strongest downtrends declined an average of 12.36 boxes. The 1000 securities with the highest prices gained an average of 0.91 boxes while the 1000 securities with the lowest prices declined an average of 12.88 boxes. High earnings momentum did not consistently outperform all stocks or high current trend. High revenue momentum consistently underperformed all stocks and high current trend:
All Highest 100 Highest 100
Stocks Momentum Trend
earnings, 3 months 2.80 2.67 1.20
earnings, 6 months -0.02 2.10 3.92
revenue, 3 months 2.49 2.08 3.04
revenue, 6 months -0.60 -1.37 4.47
The PEG tests also showed poor performance:
All Lowest 250 >=70
Stocks PEG Trend
FinViz -20 -30 -16
Yahoo -21 -32 -17
Zacks -20 -30 -17
The poor performance was partly due to some Chinese stocks with phony financial statements. However, this probably was not the only reason. People struggling to meet living expenses might have been an even bigger factor. If desperate people withdrew money from funds, the funds would have to sell some of their holdings. And if funds chose to sell their winners, regardless of value, this could cause inferior PEG performance. To gain insight into PEG behavior I began calculating the PEG Tracker, which measures the percentage of uptrends in long stock screener results. I am also building a PEG database for possible further analysis. The PEG Tracker evaluates stocks with low PEG ratios. Unless most of them are in uptrends the market is ignoring value.
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