Relative Strength Trading

[tatrader]

STRONG BEARISH DIVERGENCE IN ALL INDEXES

In order to gauge the market’s strength, I calculate the percentage of bullish stocks in some important indexes. I then plot these percentages along with the SPY that I use as a benchmark. This allows me to see two things:

• If the percentages of bullish stocks are going up or down
• Which indexes have higher percentages, which means that are relatively stronger than the others

The graph below shows the percentages of stocks that are bullish in the S&P100, 400, 500, 600, and NASDAQ100. It also shows the SPY for comparison.

We can see that, while the SPY hasn’t moved much in the last ten sessions, from 468.93 Monday, November 11 to 468.89 on Friday, November 19, the percentages of all indexes have fallen sharply from roughly 75% to 50% on average.

I noticed the same bearish divergence in a similar graph where I measure the percentage of bullish stocks in the eleven US Sectors.

The percentages of bullish stocks in all eleven Sectors, with the exception of the - very defensive - Utilities Sector, are declining sharply, despite the fact that our benchmark, SPY, hasn’t moved a lot in either direction. In fact, the dotted line, which is the average of the Sectors’ percentages, moved from 58% to 35% in the last five trading sessions.

Whenever this bearish divergence occurs, a decline in the stock market usually follows. Most of the time the divergence is much smaller and the corresponding decline is equally small.

This means that, while the SPY, which follows the S&P500, the most representative Index, in my opinion, moves more or less without a trend, more and more stocks in all major indexes and almost all sectors turn from bullish to bearish. This weakness will sooner or later become evident in the stock market in general.

I’m wondering what will happen in the next few sessions. Of course, there are no certainties in the stock market, but I closed all my positions.

Just in case.

Please send me your opinions - especially the negative ones!

 

[Mactheriverrat]

The real short trends are on the weekly charts. When the weekly 10 exponential moving average is above weekly 10 exponential moving average one week ago is the new uptrends on weekly charts.
IMHO!!!

 

[bikeeagle1]

tatrader, it looks like SPY finally caught up with your divergence (1/21/2022)!

 

[tatrader]

Thank you!

I posted this in November 21st, and the SPY didn't move much higher since then.

See the chart below.

Then, there was the highest region, in the green box, and the present slide.

Let's see what my chart shows.

During the peak in the green box, the Market Strength Index didn't move higher. So, there was another bearish divergence.

I'll be glad to see your comments.

Trade carefully and stay out in stormy times!

 

[bikeeagle1]

Cool charts! One of the indicators I look at is the plain old basic MACD. I don't trade based on it, but I like to use it to look for divergences. I also only trade weekly on Fridays, so I most often look at charts using weekly bars. In that context, the MACD has been flashing an obvious bearish divergence since about May. Here's a weekly chart of SPY showing MACD, and you'll see that it's been diving like crazy while price has been rallying without a care in the world (until this week, anyway):

 

[tatrader]

You are right.

The problem is that MACD turns down as soon as momentum starts losing its strength.

In the case you describe, if somebody followed MACD they would lose the uptrend from May till November.

What I'm doing is: I measure the percentage of stocks in - let's say - S&P500 that are bullish. Most of the time this percentage starts dropping before the Index itself turns down.

I didn't sell everything in November. I just became more cautious and observed my stops daily.

In cases like this, it's better to get out as soon as you see signs of weakness and move in again when conditions are more favorable.

 

[bikeeagle1]

tatrader, I like it! I haven't read through this whole thread, so I'm sorry if you already posted this, but how do you measure whether stocks in the index are bullish or bearish? By using their individual 200-Day moving averages? Thanks!

 

[tatrader]

HES – A STRONG STOCK FROM THE STRONG ENERGY SECTOR

Our objective is to increase our chances of picking winning stocks using a variety of strategies, namely:

• Strong Sector / Strong Cap group
• Technical Analysis
• Relative Strength
• Multiple Time Frame Analysis
• Sound Money Management

Let’s illustrate the different parts of our approach with an example:

Strong Sector
As of April 8, the best performing sector in the US Stock Market is the Energy Sector.

See the long- and the short-term momentum of all 11 US Sectors, plus the SPY for comparison.

Daily View
Let’s examine the daily and the weekly chart of XLE.

As we can see in the chart below, the Energy Sector ETF has just broken above the resistance line at 78 – the yellow line. Price itself is moving above its rising 10- 20- and of course its 50-day moving averages, a sign of a strong bullish trend – blue box.

Apart from that, we can see that the 20-day moving average is acting as a support line for price. Price touched this support line only three times in 2022 – the green circles - and never moved below it in this period of time.

Apart from that, XLE’s MACD started going up again and it’s ready to move above its Signal Line – orange box.

In addition, XLE’s Relative Strength is moving up and has just turned above its 20-day moving average – orange box. In addition, the Sector’s Relative Strength is moving up and mostly above its 20-day moving average for most of 2022 – green box.

Weekly View.
Let’s have a look at the weekly chart of the Energy Sector ETF:

Throughout 2022, price is moving in a strong bullish trend between its 10-week moving average and the upper Bollinger Band - the blue box.

The ETF’s weekly MACD is also moving up and above its signal line throughout 2022 – the orange box. On top of that, MACD is diverging from its signal line, a sign that momentum is getting stronger.

Finally, XLE’s Relative Strength is also moving up and above its 20-week moving average, which means that the Energy Sector outperforms SPY, which is our benchmark.


Having found a strong Sector, we now choose a stock belonging to this sector, expecting that we will increase our chances of picking a profitable stock.

In addition, we see that the Large Caps are getting stronger in the last few session relative to Mid and Small Cap.

To sum up, I want to find a Large Cap, Energy Sector stock because I believe it’s more likely to move up.

I chose the HES – Hess Corp. - as an example of a Large Cap stock belonging to the Energy Sector.

Daily View
We can see below the daily chart of HES:

As we can see in the blue box, the stock is moving above its 10-, 20-, and 50-day moving averages. In the last few sessions the stock moved horizontally for a few days, but it found support on its 10-day moving average before breaking above the resistance red line just above 110. So, HES is gaining momentum after a temporary consolidation phase.

This build-up of momentum is evident in MACD – the orange box. The weakening of momentum brought MACD just below its signal line, before turning up again.

In addition, the stock’s Relative Strength is moving up and above its rising 20-day moving average, which of course means that the stock outperforms our benchmark, which is the SPY – the green box. The Relative Strength of the stock is moving up throughout 2022 and again in the last three weeks – the grey box.

Weekly View
Let’s now have a look at the stock’s weekly chart to get a longer-term view of its behavior.

In the weekly chart we see price is moving in a strong bullish trend between its 10-week moving average and the upper Bollinger Band - the blue box.

This bullish momentum is also evident in the weekly MACD, which is moving up and away from its 20-week moving average, a sign of strong momentum - the orange box.

Finally, the stock’s Relative Strength on the weekly chart is moving up and above its 20-week moving average – the green box.


Money Management

Finally, let’s calculate our Stop Loss and Size of our position.

We suppose that our capital is USD 100000 and we don’t want to lose more than 1% or our capital in any trade.

That is, our risk tolerance is USD 1000 (100000*1%) per trade.

We decide to buy HES at 113 and sell the stock when it falls below 103. This is a reasonable stop loss, as it is the 10-day low of the stock.

So, our risk per stock is USD 10 (113-103).

If we divide the total risk, USD 1000, by the risk per stock, USD 10, we find that we should buy 100 shares (1000:10=100).

Let’s sum up:

Buy at USD 113

Sell at USD 103 (this is our first Stop Loss, in case the stock moves lower)

We buy 100 shares to limit our total loss to USD 1000.



To sum up, our approach of picking winning stocks combines the following:

• Strong Sector / Strong Cap group
• Technical Analysis
• Relative Strength
• Multiple Time Frame Analysis
• Sound Money Management

We’ve found that this approach increases our winning rate and limits our risk to a manageable level. To exit the trade we use a trailing stop based on the stock’s volatility, not shown here.

Any responses are more than welcome!

 

[tatrader]

Strong Sectors and Stocks

As part of my trading routine, I regularly measure the long- and short-term momentum of the eleven Sectors in the US Stock Market. This helps me determine which sectors outperform the S&P500 ETF, the SPY, and which ones underperform.

The graph above shows both the long- and short-term performance of the eleven US Sectors. Then, I rank the Sectors in a way that the Sectors that have a good combination of long- and short-term momentum are ranked at the top.

As you can see from the above graph, the four Sectors with the strongest overall strength are XLY, XLC, XLK, and XLF.

Let's see the charts of these Sectors with strong Relative Strength:

The XLY, the Consumers Discretionary Sector, is the strongest Sector, at least according to my calculations.

The Communications Sector, XLC, is the second strongest.

The Technology Sector, XLK, is the third strongest Sector.

Finally,

The Real Estate Sector, XLRE, started showing some strength as well.

In the above charts I use the 10- and the 50-day exponential moving average along with the Bollinger Bands in the main pane, plus the MACD and the Relative Strength above and below the central pane respectively.

I"ve found that choosing stocks from the outperforming Sectors increases my chances of picking profitable stocks.

In the following days, I'll try to limit my trades in these four Sectors.

Has any of you used such a filter?