Joined Nov 11, 2007
1,458 Blog Posts

A Quick Look at the Breakout and Re-test

During times when volume is slack and there is not much going on, I like to scan for stocks that have recently broken out or broken down, and have re-tested their breakout/breakdown pivot points. These types of setups allow entries into stocks that have already begun making a strong move, but are taking a breather. It is not an anticipatory setup. The breakout or breakdown has already occurred, and the nimble trader is afforded a lower-risk entry just before the stock begins to move again.

Urban Outfitters, Inc. [[URBN]] is a good example of the breakout and re-test. The volume on the breakout was good, while volume on the re-test has been slack. That is exactly what one wants. Watch the MACD here. It should stall out and begin moving back over the signal line if this trade is going to work.


Teleflex Incorporated [[TFX]] offers two levels of support: One at 62.50 and one at 60.00. Also note the Golden Cross of the 50 day moving average over the 200 day moving average from beneath. Volume on the breakout was good.

Arena Resources, Inc. [[ARD]] is a good example of this setup for a breakdown, short play. This one has the added benefit of 50 day average resistance. Even with Gustav coming ARD does not look very sure about shaking off its breakdown and beginning a new uptrend.

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Anyone Feel Like They Are Flipping A Coin, When Trading This Market?

I want to introduce to all of you a statistical measure which has come to have a significant influence on the trading systems I am developing. Ralph Vince describes the measure very well in his book Portfolio Management Formulas. This measure is called the Z-Score, or the Runs Test.

I want to skip most of the statistical jargon and get right to the meat of the issue, but I will be happy to answer specifics in the comment section.

To understand why the Z Score or Runs Test is important, we need to digest Rob Hanna’s statement from his recent post How to Trade the Choppiest Environment in 50 Years. Rob writes, “As you can see, buying after strong days and selling after weak ones worked well for 40 years. In 2000 that changed, and the last year and a half is the worst it has ever been with regards to follow through. This would suggest that strategies that may have worked well for forty years or more could be suffering greatly now.”

Also, it is important to read Dr. Brett Steenbarger’s recent post Short-Term Reversal Patterns Among Global Equity Indexes.

Both authors conclude that short-term trend following is not working very well. We can test their conclusion by applying the Z-Score to the data from the indices. I should mention that both Bhh from IBDIndex and Damian from Skill Analytics have been instrumental in helping me flesh out the rest of the ideas presented below.

The Z-Score can determine whether wins or losses are dependent on previous wins or losses. Think of dependency in this way: Do wins begat more wins? Do losses begat losses? If so, this relationship would be described as a positive dependency. What if wins begat losers, and losers begat wins? This would be a negative dependency.

While Z-Score has traditionally been used to analyze the win and loss streaks of a trading systems, it seems that another application for the measure may be to analyze the win and loss streaks of the indices in order to determine whether there is any dependency. Are the sequences of wins and losses containing more or less streaks (of wins and losses) than would be expected in a truly random sequence? When digesting this, consider the fair coin, where one flip is equally as likely to be heads as it is tails. We want to determine if the indexes are trading as a fair coin, or one that is biased to heads or tails, or both.

Below are the Z-Scores for the S&P 500 (SPX), using all data available from yahoo, which goes back to 1950. In January of 1993, the S&P 500 SPDRs was introduced. I will quit using SPX data and use SPY data from 1993 forward.

All Data, 1950 to Present: Z-Score -9.359014

This negative Z-Score implies a positive dependency at a confidence level of much higher than 99.73%. In short, a positive close on the S&P 500 generally begat more positive closes, and losing days generally begat more losing days, over this broad time span.

1960 to Present: -7.196132

1970 to Present: -3.795268

Note that the positive dependency is decreasing, yet from 1970-Present, the confidence level is still above 99.73%.

1980 to Present: Z-Score .3465443

1990 to Present: Z-Score 1.692151

1993 to Present (With SPY Data): Z-Score 2.115444

Note that there has been a switch. The positive Z-Score implies a negative dependency, where buying begats selling, and selling begats buying. Be careful though with this data, as the score must be above 1.64 to have a confidence level of greater than 90%.

2000 to Present: Z-Score 1.3608623

2003 to Present: Z-Score 1.1696094

2006 to Present: Z-Score .4530397

2007 to Present: Z-Score 1.3030246

October 2007 to Present: Z-Score .3994188

Note that from 2000 on, the Z-Scores move lower. The highest score from this period, 1.303, gives a little better than an 80% confidence level. I interpret this data to mean that the S&P 500 is basically moving through a random walk, although the confidence level is not high enough to draw any firm conclusions.

January 2008 to Present: Z-Score -0.628093

February 2008 to Present: Z-Score -0.400456

March 2008 to Present: Z-Score -0.246511

April 2008 to Present: Z-Score -0.403907

May 2008 to Present: Z-Score -0.288564

June 2008 to Present: Z-Score 0.0022265

July 2008 to Present: Z-Score -0.09631

From January 2008 to the present, we begin to once again see negative Z-Scores. A negative score implies a positive dependency, where selling begats selling and buying begats buying. The scores are not significant enough to exhibit a high level of confidence.


The recent data show no definitive dependency, either positive or negative. This means that buying because the market has closed up or selling because it has gone down has not been working as well as in the past. Also, buying weakness or selling strength, in order to catch a reversal, has not been working as well either.

Right now, betting on the market, as represented through the SPY, is similar to betting on the flip of a fair coin. This data, while it may not prove the conclusion of Hanna and Steenbarger, certainly does not disprove it.

Implications for Further Research

It seems to me that keeping shorter and intermediate time frame of Z-Scores, update daily across the indices, could give the trader a head’s up that market conditions may be changing to be more favorable to trend-following or contrarian strategies.

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Something Is Happening, But I Don’t Care What It Is

I’m just hanging out, executing strategy trades.

My signals say this weakness should be bought, but again, I’m only looking for short-term swings lasting around 5 days. And, I use stops, religiously.

I’m going to give you all another list of stocks which meet the criteria for a good short-term swing.

Linear Technology Corporation [[LLTC]]

Gartner, Inc. [[IT]]

PAREXEL International Corporation [[PRXL]]

Websense Inc. [[WBSN]]

Ness Technologies, Inc. [[NSTC]]

CSG Systems International, Inc. [[CSGS]]

Federal Signal Corporation [[FSS]]

HealthExtras, Inc. [[HLEX]]

If you want to know what is happening, or if you are having a hard time in this market, check out this excellent article: How to Trade the Choppiest Environment in 50 Years.

After reading the linked material, consider it your homework to review the setups listed above, keeping in mind the overall point of the article.

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20 & 50 Day Moving Average Cross on Nasdaq 100- Updated with Chart

As noted in the previous post, the 20 day moving average is crossing over the 50 day average from beneath, on the NDX. This type of action can signal that an intermediate uptrend is underway.

I decided to test this cross to see what edge might exist, if any.


1. Buy when the 20 day simple moving average crosses over the 50 day simple moving average from beneath.

2. Sell when price closes below the 50 day moving average.


These results go back to 1985.

The percent profitable shows that this strategy is about equal to a coin flip, in terms of winning percentage. However, the average winner is twice the size of the average loser, so there is an edge there.

I am more interested in the length of the average losing trade. For this strategy, the average losing trade lasts 19 days. This suggests that unless the NDX reverses quickly this week and closes beneath the 50 day average, the current, somewhat bullish conditions may persist for a couple more weeks.

I added this chart for Gio. You can see that this trade set up in April and lasted through June (closing when price closed beneath the 50 day average), and was profitable. The last blue arrow shows the latest cross.

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Looking For a Bounce

The markets move both ways. I view extended moves that happen in one direction, a la June and early July, as anomalies. What makes that type of move odd is that there were really no herky-jerky type spikes and pullbacks–just a straight move down.

What I’m looking for the rest of this week is a spike, of the herky-jerky type, if you will.

The Russell 2K, represented here with the [[UWM]] is short-term oversold and is sitting right at 3 levels of support: 20 & 200 Day Moving Averages, the Uptrend Line, and Support above July and August resistance. The 50 day moving average is sitting a couple of points beneath Tuesday’s close. Due to these factors, I’m looking for a bounce.

All eyes have been on the Nasdaq 100, over the past month or so. Similar to UWM, the NDX is sitting near multiple levels of support. It is short-term oversold.

Note the 20 day average is crossing above the 50 day average. More on that in a later post.

For this type of set-up, where I’m looking for a short-term bounce from oversold conditions, I want to buy strong stocks that have pulled back, holding them for a week or less, and cutting them loose quickly if they move against me. The following list encompasses the type of stocks I like for this setup.

National Semiconductor Corporation [[NSM]]

Adobe Systems Incorporated [[ADBE]]

The TJX Companies, Inc. [[TJX]]

Atheros Communications, Inc. [[ATHR]]

Red Hat, Inc. [[RHT]]

Concur Technologies, Inc. [[CNQR]]

Thoratec Corporation [[THOR]]

Immucor, Inc. [[BLUD]]

CSG Systems International, Inc. [[CSGS]]

Acxiom Corporation [[ACXM]]

CONMED Corporation [[CNMD]]

Greenfield Online, Inc. [[SRVY]]

National Instruments Corp [[NATI]]

Veeco Instruments Inc. [[VECO]]


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Looking for a Pullback

The Russell 2000 has been ripping higher, but has now reached a rather obvious point of resistance at the June high. The current trajectory is unsustainable and will be checked again soon. I’m looking for a pullback to at least $52.50

Some things to note about the [[UWM]] : Volume on the move off the bottom has been absolutely awesome. There has been some serious accumulation going on.

MACD is still strong, but is showing a slight divergence. I expect it to start rolling over. Along the same lines, the Stochastics are due to spend some time beneath 80.

What I am watching for is a break of the uptrend line, which started from the July low. A break of the line will mean the trajectory is slowing.

I ran a test tonight on the IUX, going back to 1994. A buy signal was generated when the Russell closed above the 200 day, and a sell was generated when it closed beneath the 200 day average. The average losing trade lasted 7.65 days. As this system would have had you in the Russell for 5 days now, if the index does not reverse back beneath the average, sometime this week, it is likely that it will remain above it for the next 4 months, on average.

Up next is the NDX, which is the Nadaq 100 index. This one has also been strong, although it is showing signs that momentum may soon slow.

The NDX is approaching primary resistance, extending from the October 2007 high. As a contrast to UWM, volume has been slowing on the move up, which is never good.

The MACD is at a level where a reversal typically occurs, and RSI(2) has carved out an extended, albeit short-term, top.

I ran another test tonight, on the NDX, going back to 1985. The buy signal was a close above the 200 day moving average and the sell signal was a close below the average. The average losing trade lasted 10 days, while the average winner lasted 147 days. As the NDX has closed above the 200 day average for 5 days, we should watch closely to see what happens over the next week. Should the index remain above the average, I will consider the possibility of a multi-month bottom being in place.

I am still leaning long, and will continue to buy both breakouts and weakness in strong stocks. However, I will enter some double inverses tomorrow to play the downside that I am expecting.

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The Daily Breakout

After two days of no breakouts to speak of, today’s strength resulted in four beautiful breakouts.

Team, Inc. [[TISI]] Good volume, great cup-with-handle.

NetEase.com, Inc. (ADR) [[NTES]] Not the most perfect pattern, but the volume has been outstanding.

Genzyme Corporation [[GENZ]] What a fantastic looking breakout!

EMCOR Group, Inc. [[EME]] Check out that volume. This one looks as if it may go parabolic.

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