Updated: 12/24/2015
Market Scores History Visual Guide
The Point of Sail (POS) Indicator
What does the POS indicator on the right of this blog mean? An inspiration for this website, Dr. Eric Wish at wishingwealthblog.com, uses a set of indicators to help him avoid the major US stock market bears. In tracking US market activity, I too wanted to develop an index to help me diagnosis the state of equity markets. Thus, if you are familiar with the goals and function of Wishing Wealth GMI, then you will have an idea of the principles behind POS Indicator.
Background on Dr. Wish's GMI if you are unfamiliar:
I developed my own system that scores or ranks current US stock market conditions based on the signals generated from a handful of technical indicators. In the theme of Maintrimmer Capital Management, it is named the Point of Sail Indicator.
Summary Description
The POS Indicator is a short term (ST) US stock market stochastic momentum oscillator with a supporting long term (LT) trend tracking component. The POS indicator generates trading signals as outlined in the "Potential Trading Strategy" section below. One can either devote a small portion of their portfolio to the trading system or use the POS as a guide to managing their overall portfolio. The ultimate goal of the POS is to encourage investment and purchasing of long positions by buying weakness and selling strength.
Strengths Summary
Systemic Risk Management. By only opening long positions during short term market weakness with the back drop of long term trends, the POS has a high probability of returning positive returns. The system will often stay in cash reducing the amount of time capital is at risk.
Short Term Compounding. By entering and exiting the markets multiple times within a year and producing positive trades, the system will compound if all profits are reinvested in the next trade. This allows returns to magnify quickly in periods of multiple successive "wins."
Disciplined Position Control. By setting rigid buy and sell conditions, the POS can override the whims of human psychology. This rigidity also allows the use of more aggressive trading tools like leveraged ETFs with the POS. With the understanding that the POS is already an aggressive system.
Weaknesses and Risk Summary
Market Risk. As with any strategy that opens long positions on the market, when invested, the POS is vulnerable to true black swan, or unforeseen, market panics (nuclear war, devastating natural disasters, political upheaval...etc).
Trading Cost Risk. Trading multiple times a year generates fees in commissions dependent on your brokerage cost structure. Any profitable strategy like the POS can be a loser if one does not trade large enough a position size or through a low cost brokerage to manage the trading fees relative to profits.
High Momentum Risk. The POS will underperform in periods where markets are going straight up. Its buy signals, especially, are vulnerable when markets become so overheated that there is a great distance for them to fall before becoming truly oversold. For example, the POS underperformed the indexes (but was still a winner) during 2013, and the trade placed in late May, 2013 generated a loss because markets were so elevated relative to moving averages at the time.
Opportunity Cost. The POS is only one system and should never be relied on as a sole source of trading success. It is often in cash as well, when other strategies could be making you money.
Skittish Buyer Risk. The POS opens positions during times of weakness. So, your trade has a likelihood of being a loser for the first few days or weeks. This is why you must hold until a 0 signal is reached, giving the position the proper time to flip into a winner. This can be tough for those who wish to win immediately.
Detailed Explanation of the POS
The POS signal is a short term (ST) indicator for swing trading on the daily to weekly time frame. For the POS, the higher the score (4), the more the markets are ST oversold, and the greater probability of higher prices to occur in the future relative to the LT bullish trend. Conversely, the lower the score (0), the more the market is ST overbought, and the greater the probability of stagnant or lower prices in the future relative to the LT trend.
Summary Description
The POS Indicator is a short term (ST) US stock market stochastic momentum oscillator with a supporting long term (LT) trend tracking component. The POS indicator generates trading signals as outlined in the "Potential Trading Strategy" section below. One can either devote a small portion of their portfolio to the trading system or use the POS as a guide to managing their overall portfolio. The ultimate goal of the POS is to encourage investment and purchasing of long positions by buying weakness and selling strength.
Sample Score Interpretation:
4: Market oversold- Future bullish conditions expected
3: Market negativity, future market performance becoming less risky relative to LT trend
2: Market neutral
1: Market positivity, future market performance becoming more risky relative to LT trend
0: Market Overbought- Future bearish conditions expected
-1:Weak LT trend or uncertain markets, trading the POS is not advised
4: Market oversold- Future bullish conditions expected
3: Market negativity, future market performance becoming less risky relative to LT trend
2: Market neutral
1: Market positivity, future market performance becoming more risky relative to LT trend
0: Market Overbought- Future bearish conditions expected
-1:Weak LT trend or uncertain markets, trading the POS is not advised
As always, keep the disclaimer in mind: http://maintrimmercapital.blogspot.com/p/terms-and-conditions.html
Strengths Summary
Systemic Risk Management. By only opening long positions during short term market weakness with the back drop of long term trends, the POS has a high probability of returning positive returns. The system will often stay in cash reducing the amount of time capital is at risk.
Short Term Compounding. By entering and exiting the markets multiple times within a year and producing positive trades, the system will compound if all profits are reinvested in the next trade. This allows returns to magnify quickly in periods of multiple successive "wins."
Disciplined Position Control. By setting rigid buy and sell conditions, the POS can override the whims of human psychology. This rigidity also allows the use of more aggressive trading tools like leveraged ETFs with the POS. With the understanding that the POS is already an aggressive system.
Weaknesses and Risk Summary
Market Risk. As with any strategy that opens long positions on the market, when invested, the POS is vulnerable to true black swan, or unforeseen, market panics (nuclear war, devastating natural disasters, political upheaval...etc).
Trading Cost Risk. Trading multiple times a year generates fees in commissions dependent on your brokerage cost structure. Any profitable strategy like the POS can be a loser if one does not trade large enough a position size or through a low cost brokerage to manage the trading fees relative to profits.
High Momentum Risk. The POS will underperform in periods where markets are going straight up. Its buy signals, especially, are vulnerable when markets become so overheated that there is a great distance for them to fall before becoming truly oversold. For example, the POS underperformed the indexes (but was still a winner) during 2013, and the trade placed in late May, 2013 generated a loss because markets were so elevated relative to moving averages at the time.
Opportunity Cost. The POS is only one system and should never be relied on as a sole source of trading success. It is often in cash as well, when other strategies could be making you money.
Skittish Buyer Risk. The POS opens positions during times of weakness. So, your trade has a likelihood of being a loser for the first few days or weeks. This is why you must hold until a 0 signal is reached, giving the position the proper time to flip into a winner. This can be tough for those who wish to win immediately.
Detailed Explanation of the POS
The POS signal is a short term (ST) indicator for swing trading on the daily to weekly time frame. For the POS, the higher the score (4), the more the markets are ST oversold, and the greater probability of higher prices to occur in the future relative to the LT bullish trend. Conversely, the lower the score (0), the more the market is ST overbought, and the greater the probability of stagnant or lower prices in the future relative to the LT trend.
IMPORTANT: While the POS is a ST indicator, it is designed assuming a long term (LT) bullish situation in the markets (on the scale of months and years). The indicator will return a score of -1, or Weak LT Trend, whenever the LT trend of the market is bearish or neutral. The -1 score replaces the 0-4 scores since under a Weak LT Trend the POS signals will no longer provide high quality indications of good ST buying or selling conditions.
In tracking the POS, you will notice high numbers tend to occur with ongoing market weakness and low numbers with strength in the markets. It is purposefully designed to function this way. While new traders will feel nervous buying into and holding through weakness, this is precisely what you need to do to have consistent success in a LT bullish market background. For a long time, I too, was nervous about doing this, but realized that I assumed more risk when buying into strength and selling into weakness by trend chasing rather than trend trading. Therefore, in developing the POS, I wanted to share an indicator that sets you up for the most success by encouraging buying weakness and selling into strength. The -1 value for "Weak LT Trend" serves as a backstop to prevent you from buying weakness when it is actually riskier to do so from a probabilistic perspective.
More on the Underlying Index
The underlying index used to determine the POS signal represents the sum of eight separate indicator scores. Every indicator that is bullish contributes one unit of value, with a maximum score of eight possible from eight total indicators.
The underlying index used to determine the POS signal represents the sum of eight separate indicator scores. Every indicator that is bullish contributes one unit of value, with a maximum score of eight possible from eight total indicators.
The eight indicators include information from the following indexes:
NYSE New Highs-New Lows
VIX short term and medium term futures
Institutional Index ($XII)
Dow Jones Global Titans
S&P 500 Equal Weight
The underlying index is further enhanced by the way each indicator is scored at either a 1 or a 0. I was inspired by Chris Ciovacco's work to accomplish this component. While the model is too complex to share every detail, it bares some similarity to Chris's models "objective" scoring models: https://www.youtube.com/watch?v=SJ-dYMgMn40.
I use technical indicators to answer binary questions about the current state of a certain index and use the binary answers to produce a score (1 or 0) that summarizes the current technical strength of the index. The eight individual scores of 1 or 0 adds up to a total possible score of 8. Having this underlying function, the POS works most like a momentum oscillator, meaning the market must move a certain extent in one direction or the other to cause a change in values.
Potential Trading Strategy:
Potential Trading Strategy:
In a LT bullish uptrend, the indicator will vary from 0 to 4. A score of 0 or 1 indicates the market is overbought and it is therefore riskier to open a long position on the market. A score of 3 or 4 indicates the market is oversold and it is a lower risk opportunity to open a long position on the market. The POS is designed to assist in managing long positions for only the US stock market.
When the POS first reaches a 3 or 4 (Consider 3 & 4 as interchangeable signals in terms of triggering a trade), open a long position on the S&P 500 by the end of the following trading day (I recommend using SPY, VTI, or a leveraged Large Cap ETF). Hold the position until the POS reaches 0. Once the POS first hits 0, close the long position by the end of the following trading day. Whenever the POS has not triggered a trading signal, such as when it is at a 2 or after the first 0, 3, or 4 in a sequential string of 0s, or 3s, and 4s, then remain in the previously triggered position (CASH OR LONG).
I will share trading recommendations from this strategy next to the POS score. LONG means open and hold long positions at this time. CASH means close LONG positions at this time and wait.
IF the POS is -1, then the LT trend is not strong enough to make long positions most successful according to the system's rules. Regardless if the previous signal is LONG OR CASH, close any open long trade and remain in cash until conditions improve and signals between 0 and 4 return. This may trigger loss on a current open trade, but closing the position is highly recommended for downside protection.
One will achieve good results simply by following this strategy. However, if one looks to buy when the POS is at 3 or 4 at any time or looks to sell when the POS is at 0 or 1, she will in general have better results in managing her long positions.
The POS for Portfolio Management
As suggested by the previous paragraph, the POS can be used with Buy and Hold positions and long term investments by deploying idle cash or increasing US market exposure when the POS recommends a LONG position and cutting US exposure and closing positions when the POS recommends a CASH position.
Back Test of POS Trading Results
Dates: 1/1/2012-Present
Trading Vehicle: UPRO (3x S&P 500)
Return: 298% (~100% return if using SPY)
Assumptions: Started with $100,000. Trade opened or closed at the close of the day after the signal is generated (ex. 7/14/15 CASH (sell signal), trade closed 7/15/15 at the close). Does NOT include trading fees.
# of Trades: 29 sets of open & closes (58 individual trades)
# of Trades: 29 sets of open & closes (58 individual trades)
2015 Performance (Assuming UPRO is used)
The Market Heat Index - A Custom Breadth Indicator
For an overview of breadth indicators, I wrote a short introductory article here.
Summary
The Market Heat Index is a custom breadth indicator created at Maintrimmer Capital that tracks the changes in aggregate individual stock participation in the day to day moves of the US stock market.
Interpretation Guide
Heated. The higher the value (nearer to 100°), the more individual stocks are participating in the current rally, or are gaining value or improving technically.
During increases in market heat:
1) Those trading individual stocks are on average more successful as they are more likely to be holding gainers.
2) The total stock market is more likely to advance as the average stock is in a bullish condition. Think of this as ease of movement. The overall index may feel "buoyant" and gain value quickly and more easily.
3) Markets are becoming overbought. This condition cannot last forever, and is followed by cooling market breadth, which MAY cause a decrease in average prices.
In a healthy bull market, the Heat Index will near or hit 100° on rallies (when the POS hits a 0).
Cooling. The lower the value (nearer to 0°), the more individual stocks are participating in the current pullback, or are losing value or deteriorating technically.
During decreases in market heat:
1) Those trading individual stocks are on average less successful as they are more likely to be holding losers.
2) The total stock market is more likely to decline as the average stock is in a bearish condition. Think of this as ease of movement. The overall index may feel "heavy" and lose value quickly and more easily.
3) Markets are becoming oversold. This condition cannot last forever, and is followed by heated market breadth, which MAY cause an increase in average prices.
In a healthy bull market, the Heat Index will not stay near 0° for prolonged periods and cooled market make good entry points.
Possible Use
The Market Heat Index is a background indicator to give one a general idea of what the average stock is doing behind the daily movements of the indexes.
It is not precise enough to generate signals, but if one keeps in mind the interpretation guide above, it should give valuable insight into what is happening to the average stock beyond the price changes in the indexes.
As always, keep the disclaimer in mind: http://maintrimmercapital.blogspot.com/p/terms-and-conditions.html
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