Three concepts
Studies after studies have shown some concepts in the stock market have an edge over the random walk hypothesis. Out of the many anomalies I have studied and tested, I have based my trading on few key concepts with statistically proven edge.
All my trading is based on three core concepts.
- Earnings
- Momentum
- Neglect
Earnings
Earnings based strategies can have many flavors. At the heart of earnings strategies are concept like PEAD Post Earning Announcement Drift, earning momentum, and earnings overreactions. PEAD or Post Earnings Announcement drift is a phenomenon in which stocks showing surprisingly good earnings or bad earnings show drift in either direction post earnings and this last after the one day earning effect. The Earnings Breakout and Earning Surprise strategies I trade are based on this phenomenon.
Earnings momentum based strategies look for momentum. history of rising earnings growth over several quarters. Such stocks with earnings momentum have propensity to rally for long duration till their earnings momentum lasts. Long term winners (3-5 year time frame) always show earning momentum. The IBD EPS rating is basically a Earning Momentum based rating. It uses a weighted average of EPS growth for 3-5 years plus recent years and quarters to rank stocks. Stocks rated high on EPS ratings have a track record of good earnings growth. You will often see price persistence in such stocks. The IBD 200 strategy is based on Earnings Momentum. It also has price momentum built in to it as it selects top 200 stocks with Earnings plus Price Momentum.
Earnings overreactions lead to long term trends. When stocks establish a long term track record of earnings growth or below par earning growth, investors tend to overreact, assuming such trend will continue. At some stage prices move ahead of the earnings trend and that leads to price reversal. That is why shorting a stocks after it had a long history of earning growth and when it misses for first time often is very profitable strategy. Similarly most contrarian strategies are based on buying stocks when earnings are bad in the hope that they will mean revert. Value investors often use this as one of their strategies.
Momentum
Stocks that have outperformed over the past 3-18 months continue to outperform over the next 3-18 months, and same for underperformance. There are various explanations for this phenomenon and one of the explanation is momentum effect is linked to liquidity. With momentum persisting on previously illiquid stocks more than on liquid stocks. But it is just one of the explanation for the phenomenon and even liquid stocks show momentum.
The 100% plus "Double Trouble" strategy is basically based on this concept. The unique twist is in determining the point for calculating the 100% move. It also eliminates from the trading universe non trending stocks and considerably narrows down the trading universe to only stock with strong momentum. Breakout strategies work on such stocks, they may not work on other stocks. Hence buying a 4% plus breakout.
The momentum effect also shows that in the short time frame of 2-3 weeks there is strong tendency to mean revert. Hence one selects trades based on a 65 day weakness or some prior weakness before a breakout. If you are primarily a short term swing trader a 2 week weakness and a max holding period of two weeks on 100% plus wil significantly improve profits. Also anticipatory or anti trend entries using price channels or Bollinger Bands or other short cycle identification methods can help improve your returns on 100% plus if you are trading primarily the 5 to 10 days horizon.
The 100% plus strategy also has other unique twist of using absolute value rather than relative value for momentum . with an absolute cut off of 100, when no stock matches the criteria, there are no opportunities. While in relative method, you will take say the top 10% even in weak markets. So in bear market like in 2001 or 2002, the 100% plus universe was often below 100 levels.
Now if you want to use same momentum concept on large cap stocks or high liquidity stocks you can set your cut offs at 20 to 50%. So if you want to trade Dow Jones component, you can use entry after 20% plus move. If you want to limit your trading universe to S&P, you can use 50% plus cut off.
The Episodic Pivot method is also based on momentum effect. The primary hypothesis in it is that short term above average momentum often leads to start of a long term momentum cycle. By entering at such juncture, you get to enter at beginning of big move. Now if you add a catalyst study to it then returns improve.
Neglect
Studies of the best and worst performers over the preceding five and three year periods shows that the best performers over the previous 3-5 years period subsequently underperformed, while the poor performers from the prior 3-5 period produced significantly greater returns than the index. So there is long term mean reversion.
There are many possible strategies one can design based on this observation. Value investing is primarily based on such effect. The "Virgin" and "Neglect" strategy I trade is based on this concept. In " Virgin" one is looking for an ultimate in neglect, where a stock has never had a significant rally post its IPO. In my neglect strategy I look for prior 2-5 year growth (it should be negative or sideways), to select stocks and enter once they rally 30 % plus from 260 days low and meet liquidity criteria.
All the three concepts basically allow you to select a vehicle with high probability of going up. By entering them at beginning of major moves, you are likely to find a good amount of stocks early in their price appreciation cycle.
This conceptual understanding and background is essential to trade any of these methods. That is why theories like MACD, price channels , support resistance, etc, should be based on specific behavior of such stocks. A indicator which does not work on specific set of stocks works on certain set off stocks if the selection methodology was different. The overall conceptual understanding also helps to narrow trades when faced with several breakout. Why chose stocks with lowest float in IBD 200 or Episodic Pivot or Earnings breakout is because they are indicator of neglect. My past studies also show that low priced and low float stocks in IBD 200 outperform the high priced and high float by almost 3:1.
The reason to trade a mix of such methods is to ensure you get stocks at different stages in their life cycle. The Episodic Pivot, Earnings Breakout and Virgin/ Neglect strategies get you stocks in early stage of price appreciation cycle. The IBD 200 and Double Trouble primarily gets you in to the "sweet part" of the trend, once momentum in either earnings or price is well established.
If conceptual foundation is strong, you have more confidence in your method and tactical adjustments like entry, exit, risk management become easier. Concept is key. Rest is detail.
Related Post
Concept is key not tools
Are you serious about your trading?
If you are serious about your trading and want to build an enduring edge the Stockbee Member site might help you. Members tell me they have tried lot of things before coming to my site and it has offered them the most extensive and detailed methods to swing and position trade.
It is only for those who want to develop their own self sufficient trading method. It is not a stock picking service. It is service for you to build your own scans and trading method to have your own daily pick based on your method.
Be warned it will take you time to learn to trade. Learning to trade is difficult art and unless you are willing to spend months or years to perfect your strategy and also develop your mental edge you are unlikely to succeed in this game. Unless you understand that no site, no service, and no mentoring is going to work.
Why traders come to stockbee?
The member site is one of the most recommended site for learning to trade by other traders and bloggers. You will see no advertising, no hard marketing, no promotions, no free offers, no affiliate marketing, no incentive to other bloggers to promote the site, no constant twits self promoting the site, no free trial and no tall claims of making you instantly wealthy, and yet the site attracts new members everyday. Members come from all walks of life and all kinds of trading size and trading styles.
You will see that many trading bloggers have been using my market timing methods, scans , stock ranking lists and chart templates. They have developed their own methods based on my methods. Many paid newsletter site recommend my site to their subscriber for learning about trading and market.
Over the years thousands of traders have been members and those who benefited from the learning talk about the site to others or talk about the methods used and that is how new members learn about the site.
What will I learn in the members site?
The members site will give you in depth understanding to develop your own trading method. The emphasis is on making you self sufficient and confident of your own trading method and style.
As a member you will learn the basics of swing trading, momentum investing, growth investing and risk management.
You will learn about Stockbee Trend Intensity Breakouts method that uses momentum based swing trading to find 3 to 5 day swing trades for 8 to 40% profit.
You will learn about Stockbee Episodic Pivots Breakout method which uses Post Earnings Announcement Drift (PEAD) to find stocks that had a game changing earnings and that are likely to rally for 3 months to 12 months.
You will learn about Stockbee Dollar Breakout method that uses momentum, range expansion and swing trading approach to find 5 to 40 dollar moves in high priced stocks.
You will learn about Stockbee Lemonade Strategy for 401k which uses market timing and momentum to invest in 401k. You will get weekly update on how I am using the strategy on our 401k to do allocation decision.
You will learn about Stockbee Market Monitor method for market timing using breadth. It allows you to avoid risky periods in market and allows you to identify market turns. It is used for 401k allocation decisions.
You will learn about Stockbee Double Trouble method to find stock with confirmed upside momentum using anchored momentum and that are likely to continue their up move.
You will learn about Stockbee Night Time is Right Time method to find news catalyst based trade ideas for short term day trade and swing trade.
You will learn about Investor's Business Daily’s IBD 200 list and how it can be used to find swing trading candidates for explosive moves.
You will learn about Telechart 2000 and how to use it effectively to scan for swing and position trade ideas and to set up your 401k strategy.
You will learn about Jesse Livermore Range Breakout, Darvas Box setup, and many other member shared methods.
You will learn how to set up your own scans, select right kind of stocks, how to set up stops, when to enter , when to exit, how much to risk, how to track your trades and all other details about trading. You will learn about developing your own methods and not relying on others for trade ideas.
The site has hundreds of videos and trading methods and variation of methods. Members help each other in developing the methods and share actively their research and finding. A collaborative spirit allows you to get input from others on your trading ideas or problems.
The site gives you opportunity to interact with some of the most successful traders and learn from them about their trading methods. It is a vibrant community with members from different background and experience willing to help each other. The emphasis is on continuous learning and up gradation of market knowledge and setup knowledge. The members range from hedge fund employees, financial advisers, active swing traders, investors and new traders.
If you are looking to develop your own trading strategy the membership site might be for you. You have to be willing to put in the effort to build your own method. There are no silver bullets offered on members site. Every method, every scan, every nuance is detailed and all possible help is offered to design your own method.
Do you have a trial?
If you are just looking for trial you are better off trying thousands of other trading site that offer free trail or one month trial and offer you promise of riches.
It is for those who are ready beyond the trial phase and ready to put serious months or years of efforts to learn to trade on their own. It is for those who want to learn to find their own fish.
The free blog has all the details about the methods I trade and if you go through the posts highlighted in the sidebar you will learn about them.
How can I become a member?
To sign up go to www.stockbee.biz and follow the sign up process. The site uses Paypal for payment processing.
POPULAR POSTS
Are you serious about your trading?
If you are serious about your trading and want to build an enduring edge the Stockbee Member site might help you. Members tell me they have tried lot of things before coming to my site and it has offered them the most extensive and detailed methods to swing and position trade.
It is only for those who want to develop their own self sufficient trading method. It is not a stock picking service. It is service for you to build your own scans and trading method to have your own daily pick based on your method.
Be warned it will take you time to learn to trade. Learning to trade is difficult art and unless you are willing to spend months or years to perfect your strategy and also develop your mental edge you are unlikely to succeed in this game. Unless you understand that no site, no service, and no mentoring is going to work.
Why traders come to stockbee?
The member site is one of the most recommended site for learning to trade by other traders and bloggers. You will see no advertising, no hard marketing, no promotions, no free offers, no affiliate marketing, no incentive to other bloggers to promote the site, no constant twits self promoting the site, no free trial and no tall claims of making you instantly wealthy, and yet the site attracts new members everyday. Members come from all walks of life and all kinds of trading size and trading styles.
You will see that many trading bloggers have been using my market timing methods, scans , stock ranking lists and chart templates. They have developed their own methods based on my methods. Many paid newsletter site recommend my site to their subscriber for learning about trading and market.
Over the years thousands of traders have been members and those who benefited from the learning talk about the site to others or talk about the methods used and that is how new members learn about the site.
What will I learn in the members site?
The members site will give you in depth understanding to develop your own trading method. The emphasis is on making you self sufficient and confident of your own trading method and style.
As a member you will learn the basics of swing trading, momentum investing, growth investing and risk management.
You will learn about Stockbee Trend Intensity Breakouts method that uses momentum based swing trading to find 3 to 5 day swing trades for 8 to 40% profit.
You will learn about Stockbee Episodic Pivots Breakout method which uses Post Earnings Announcement Drift (PEAD) to find stocks that had a game changing earnings and that are likely to rally for 3 months to 12 months.
You will learn about Stockbee Dollar Breakout method that uses momentum, range expansion and swing trading approach to find 5 to 40 dollar moves in high priced stocks.
You will learn about Stockbee Lemonade Strategy for 401k which uses market timing and momentum to invest in 401k. You will get weekly update on how I am using the strategy on our 401k to do allocation decision.
You will learn about Stockbee Market Monitor method for market timing using breadth. It allows you to avoid risky periods in market and allows you to identify market turns. It is used for 401k allocation decisions.
You will learn about Stockbee Double Trouble method to find stock with confirmed upside momentum using anchored momentum and that are likely to continue their up move.
You will learn about Stockbee Night Time is Right Time method to find news catalyst based trade ideas for short term day trade and swing trade.
You will learn about Investor's Business Daily’s IBD 200 list and how it can be used to find swing trading candidates for explosive moves.
You will learn about Telechart 2000 and how to use it effectively to scan for swing and position trade ideas and to set up your 401k strategy.
You will learn about Jesse Livermore Range Breakout, Darvas Box setup, and many other member shared methods.
You will learn how to set up your own scans, select right kind of stocks, how to set up stops, when to enter , when to exit, how much to risk, how to track your trades and all other details about trading. You will learn about developing your own methods and not relying on others for trade ideas.
The site has hundreds of videos and trading methods and variation of methods. Members help each other in developing the methods and share actively their research and finding. A collaborative spirit allows you to get input from others on your trading ideas or problems.
The site gives you opportunity to interact with some of the most successful traders and learn from them about their trading methods. It is a vibrant community with members from different background and experience willing to help each other. The emphasis is on continuous learning and up gradation of market knowledge and setup knowledge. The members range from hedge fund employees, financial advisers, active swing traders, investors and new traders.
If you are looking to develop your own trading strategy the membership site might be for you. You have to be willing to put in the effort to build your own method. There are no silver bullets offered on members site. Every method, every scan, every nuance is detailed and all possible help is offered to design your own method.
Do you have a trial?
If you are just looking for trial you are better off trying thousands of other trading site that offer free trail or one month trial and offer you promise of riches.
It is for those who are ready beyond the trial phase and ready to put serious months or years of efforts to learn to trade on their own. It is for those who want to learn to find their own fish.
The free blog has all the details about the methods I trade and if you go through the posts highlighted in the sidebar you will learn about them.
How can I become a member?
To sign up go to www.stockbee.biz and follow the sign up process. The site uses Paypal for payment processing.
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4 comments:
I just discovered your blog and am going through the archives--awesome concepts and ideas to get you thinking about how to develop strategies. Please keep up the fantastic work!
Pradeep
Some interesting observations on the the incredible power of momentum stocks. Eddy Elfenbein comments
I was completely stunned by the incredible outperformance of stocks with high momentum, meaning stocks that are surging have a tendency to keep on surging. I was aware of some of the academic literature on this subject, but I have to confess that I was completely dumbfounded by the results.
http://www.crossingwallstreet.com/archives/2007/12/the_incredible.html
I figured that out 7 years ago. Anyone who ventures beyond technical analysis will find this out immediately. The first challenge to efficient market hypothesis was PEADS and momentum anomaly.
Actually, momentum IS technical analysis, because technical analysis is the study of price, volume, and sentiment. 2/3 of your methodology is technical analysis.
The difference, Pradeep, is not that you "don't use technical analysis" - you DO - it's just that you use technical analysis in a quantitative and scientific manner, which is what's lacking in most practicioners of technical analysis.
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