TrendWatch Weekly

If you’re not feeling like you’re in a comfort zone for investing right now, you probably should be. January has behaved beautifully; and as some historical statistical studies would suggest… as goes January, so goes the rest of the year.

This seems like a good time then to answer some questions from readers that have been accumulating for a while. We think we’ve done a pretty good job of summarizing relative trend analysis™ (RTA) in our Visitor Guide, but a few enquiries that have been sent our way over the past year suggest that maybe we should expand that section. For now though, we’ll answer some of the more frequently asked questions in our commentary section below. If you’re a regular reader and feel that you’ve already worked relative trend analysis™ (RTA) nicely into your own investment methodology, you might prefer to skip that section. But first, you might want to have a quick look at the weekly review.

WEEKLY (& JANUARY) REVIEW… Although the past week’s gains weren’t as large as those of the previous week, we’ll accept them gladly anyway.

S&P/TSX Composite Index… +0.6%

S&P/TSX Venture Index… +3.7%

DJ Industrials… -0.4%

S&P 500… +0.1%

Nasdaq… +1.1%

As I mentioned last week, it’s quite common for small caps to be looking good this time of year. The S&P/TSX SmallCap Index rose another 1.9% after moving up 2.3% the previous week. The US favourite small cap index, the Russell 2000 rose 1.8% on top of 2.7% the previous week.

Eight of 10 sector indexes still have positive trend values among both the S&P/TSX Composite and S&P 500 stocks. MATERIALS top the list in Canada by trend value after a 6.1% gain in that index over the past week. As you can see from the numbers above the S&P/TSX Venture Index gets a double boost, since the majority of it’s constituents are both MATERIALS and small cap companies.

Among the S&P 500 companies INFORMATION TECHNOLOGY tops that sector list by trend.

After major gains the week before, 56% of S&P 500 companies still had rising stock prices last week; while the S&P/TSX Composite Index counterpart dropped to 47%.

84% of the S&P 500 companies have positive trend values vs 71% for the constituents of the S&P/TSX Composite Index.

After last week closed, there were just two trading days remaining for January, so here’s a summary for the first four weeks of 2012…

• S&P/TSX Composite Index… +4.3%
• S&P/TSX Small Cap Index… +8.4%
• S&P/TSX Venture Index… +9.7%
• DJ Industrials… +3.6%
• S&P 500… +4.7%
• Nasdaq… +8.1%
• Russell 2000… +7.8%

As anticipated January proved once again to be an excellent month to be invested in small caps and technology stocks.

For more details on sectors and performance of stocks within sectors, visit the DATA & CHARTS workbook.

In our annualized growth rate (AGR) chart below we take the average weekly %-gain/loss in the trend values of all stocks and multiply it by 50 to get a ball-park annualized speed of price movement of the S&P/TSX Composite and S&P 500 stocks. It’s like a speedometer, but instead of miles or kilometres/hour in your car, you will be seeing %-gain (or loss)/year.

Why annualize? Well, it’s not essential, but it provides a fairly meaningful scale and we can use larger round numbers. The differences also stand out more. Your car’s speedometer could read miles (or kilometres) per minute, but the numbers would be pretty small and harder to interpret, like our gains per week numbers. Scaling up the time dimension just acts like a magnifying glass, as it does with your car’s speedometer.

You can see that last week’s performance in equities had a mildly negative impact on both the S&P 500 trend benchmark and the S&P/TSX Composite Index trend.

As you know, the ProfiTrend Portfolio (PTP) is based on my own holdings. It’s a way of sharing with you how well I’m doing relative to the averages, without giving away too many specifics and personal details.

You can see from the chart that the AGR for my ProfiTrend Portfolio (PTP) is now at 138%, also down a bit from the previous week, but still well ahead of the benchmarks.

After closing three positions and adding four new ones the previous week, I’m still roughly 65% in cash. I was happy to just sit back and watch instead of doing any trading last week. All the same, the investing climate keeps improving, so my cash position is bound to shrink substantially very soon.

I strongly encourage you to track your own portfolio this way. It’s quite easy to do. For each of the stocks you’re holding, simply divide the percent gain to date by the number of weeks you’ve held that stock. Then take an average of those numbers and multiply by 50 (or 52 weeks if you’re a stickler for detail). Track that number weekly as we do above… comparing it with the benchmark(s) that you think are appropriate.

As I like to emphasize, if you’re not outperforming the average(s) all of the time, using a summary chart like this one, that could mean that you’ve gotten a bit lazy about dumping your losers and/or replacing them with equities that have more attractive trend and consistency values. Dropping losers before too much damage has been done is like dropping ballast from a hot air balloon. Without the extra weight, your portfolio will soar higher, as you can see with my own results after my trading last week.

Q&A ON RELATIVE TREND ANALYSIS ™ (RTA)… First, let’s recap the basics.

1. We want to make more profits than average and we want to do that faster than average. What “average” is will vary with overall market conditions, but that is our fundamental goal.
2. We would prefer to buy and hold investments that rise in a nice smooth, consistent manner, rather than those that are more volatile in their price growth path.
3. We want to quickly sell those investments that no longer meet conditions #1 and #2, but hang onto the rest until they too start to fizzle out.

How does relative trend analysis™ (RTA) help us accomplish this? With just two numbers (and a third one that’s normally hidden from view). There is no need to generate historical price charts like the ones you’ll see further down this page, or get into complicated technical analysis tools. Of course, you still can if you want to, but that’s outside of the scope of RTA.

The first thing that’s required is a level playing field if we’re going to compare one investment with another one or a thousand others. We can’t use simple monetary price changes for that. A 10 cents stock that moves up to 20 cents may only be up a dime, but that’s a 100% profit if sold at that point. Compare that with another dime change from $50 to $50.10. It’s negligible.

So, all of our calculations are based on percentage price changes. That way everything can be compared with everything else on the same profitability scale.

Next, we want to know how fast a stock is rising… i.e. it’s trend value. That’s simple too. We run a moving average of price changes over the most recent ten weeks. That gives us a trend value (Tr10) that let’s us say “this stock has been moving up 2%/week on average over the past ten weeks” (or whatever the number turns out to be). We actually use an exponential moving average, rather than a simple moving average, because that gives more weight to more recent price changes. That means that what has happened over the past month, for example, is given somewhat more importance than what was happened, say, two months ago.

Finding our second number, the one that tells us something about how consistently the price has been rising, is a little trickier because we need to know something about how volatile the stock is. There are a number of fairly complicated ways to measure volatility, but again we chose the easiest path mathematically. We ran the same moving averages that we did to determine the trend, except we ignored the direction of each week’s price change. Positive and negative week-over-week price changes tend to cancel each other out when calculating trend, but they don’t when we’re calculating volatility. Hence, the volatility value (Vol10) will always be larger than the trend value unless all of the price moves that make up the moving average for trend are in the same direction. Then the two values will be the same (although the trend value will have a plus or minus sign in front of it).

If there are a lot of up and down price swings, the volatility value will be much higher that the trend value (ignoring the “+” or “-“ sign). Hence, we simply create a consistency index (C10) by dividing trend by volatility. With this elementary approach to the math, the consistency values have to fall between 0% and 100%. If all of the price movements within the ten-week moving average are in the same direction, consistency will be 100%. If price fluctuations were randomly up and down to similar extents, consistency would approach 0%.

It’s that simple. We generally just report Tr10 and C10 trend/consistency pairs, but you can easily compute Vol10 if you wish to examine volatility separately. Vol10 = Tr10/C10, but you’d ignore the “-“ sign if the trend was negative.

So that’s relative trend analysis™ (RTA) in a nutshell. Now, let me take some questions.

Is relative trend analysis™ (RTA) some sort of proprietary methodology where I have to rely on ProfiTrend Enterprises to provide me with the data I need?

No. A proprietary (or black box) system is one where the math is hidden from you. You normally have to pay subscription fees for proprietary systems, yet you’re still left in the dark regarding what is actually being calculated. For all you know, the black box may just contain a random number generator. In our summary above, you’ve just seen all the math that goes into relative trend analysis™ (RTA). All that we’re offering here is a simple-to-understand and simple-to-apply system for finding stocks that are appreciating in value quickly with a fairly consistent trajectory, relative to any other stock, index or investment vehicle that you’d care to use for comparison purposes. We do ask, however, that you respect the relative trend analysis™ (RTA) trade mark and reference the developers (i.e., me — Charles P. Whaley, PhD — and ProfiTrend Enterprises), if you are applying our techniques and publishing the results elsewhere. While RTA may not be proprietary, it is extremely unique as far as we know from surveying the financial literature. Think of it as Trend Analysis 2.0, relative to traditional trend following techniques. If you like what you see here, please give us credit when you discuss our approach with others.

If RTA is that simple, why do I need this newsletter and the ProfiTrend Advantage web site?

In theory, you don’t. What we offer are trend and consistency data (updated weekly) for some popular pools of investments (stocks within major indexes, popular ETFs) and commentary on other aspects of the markets. We try to always tie the topics discussed weekly back to our RTA core screening strategy. Also, since we do the math, so you don’t have to. And, if you really like the approach, we hope that you’ll subscribe to one or more of our larger databases of trend/consistency data… updated and distributed weekly. Again, you could do the math, but the cost of us doing it for you is undoubtedly far cheaper than what your time is worth. We’ve been at it for quite a while, so we’ve got the process fairly well automated.

Can you show me an example of how your two numbers are as good as a chart?

Our two numbers are actually far better than a chart, because they can be compared to other pairs of numbers derived the same way. When you compare charts, you’re often misled, because the stock price history is usually scaled to fill the chart. One chart with a scale expressing the range form $20 to $22 may look quite similar to one with a range of $20 to $40.

I’ve picked two current charts (as of last Friday’s close) that do have fairly similar price scales and trend values. NVLS is a semiconductor equipment manufacturer and FSLR is a solar panel manufacturer.

These are three month charts and our trend/consistency numbers are derived from the right-most 10 weeks of data.

For NVLS Tr10 = +3.4%/week; C10 = 80%; Vol10 = 4.3%

This is a prime example of a consistently and rapidly appreciating stock that you’d love to have in your portfolio. There are certainly no guarantees that this smooth upward trend will carry on, but with the low volatility, you won’t be kept awake at nights worrying about price swings.

For FSLR, Tr10 = +3.0%; C10 = 29%; Vol10 = 10.3%

The trend value of 3.0% is not that much different from NVLS’s 3.4%, but you can see the choppiness in the price action. Hence the poor consistency value of just 29%, and the high volatility value. Within that 10-week time horizon, the stock dropped from about $48 to $30, before it started rising again. Would you have hung on through that 38% drop before the price started rising again? I wouldn’t have! You might have even considered selling when the price dropped from $43 to $38 earlier this month (down 12%)? And, yet the trend calculation provides a result very similar to that of NVLS in the chart above. The big difference is in the consistency.

Consistent trends are the path to sweat-free, sleep-well-at-night profits!

Can I use RTA alone for all of my trading?

You could try, but we certainly wouldn’t recommend it. Find stocks with attractive trend/consistency pairs, then do your homework. Is the company profitable? Is the trading volume so low that stock price manipulation may be going on? What do analysts think about the management team? Is the company’s P/E in line with competitors in the same industry? Etc. Etc. You are the best judge of the factors that are of concern to you, since you are actually buying a piece of that company. You also need to consider your risk tolerance. Many Tr10/C10 pairs are way too good to be true… and they probably are. A company might suddenly have a Tr10/C10 pair like Gennum (GND) this past week. It ended the week at $13.48, up from $6.15. The Tr10/C10 pair is +21.0%/week with 91% consistency!

Could GND possibly have a smooth chart pattern like NVLS with that 91% consistency number? Not a chance! With the front-weighted price movements used in RTA, a take-over bid, where the offer is double the recent trading range, will totally invalidate the RTA results. Why? Because the huge upward price move within just the most recent of the 10 weeks in the average will inflate both the trend and the volatility to the point that consistency is spuriously high. There’s nothing wrong with the math… it just loses it’s intended purpose in highly unusual conditions like this.

That is why you need to perform your due diligence before entering any trade. As quickly as you would have found out that GND was being acquired by another company, you’d also have learned that there’s probably a cap on further price moves beyond the take-over price. Whether the acquiring company is worth a look for investment purposes is a separate decision, but you should wait until the dust settles before having a look at the acquirer’s trend/consistency numbers and considering any action.

By the way, NVLS, the great appearing stock charted above, is also being acquired by another company, Lam Research. Once again, you always need to check for recent significant events before placing a buy order, even when the RTA screen reveals what appear to be excellent candidates. In this case there wasn’t much of a premium offered by the acquirer and it’s a stock-for-stock deal… 1.125 Lam shares for each Novellus share. Assuming that deal goes through, you now have to have a look at the performance of Lam Research (LRCX). The trend/consistency pair there is far less impressive… +1.9%/37%.

So, I hope this convinces you that as useful as we believe RTA really is, you shouldn’t use it mechanically without considering other factors. You could get yourself in trouble!

Once I’ve built a portfolio of stocks with good trend/consistency numbers and respectable fundamentals, how do I know when to sell?

Again, your risk tolerance comes into play here, but I rely on three sell signals… any one of which would prompt me to exit a position.

1. Even though I expect excellent trend and consistency numbers before I’ll buy a stock, I’ll wait until the consistency and trend values fall close to zero before selling. That way I know that the trend has definitely expired for the time being.
2. I track and update new highs as often as I can for all my holdings (relative to my purchase price). If I buy a stock at $10 and it moves up to $12 during the first week, that’s my new high. If it then slips a bit, $12 is still my new high. If it goes to $13 a few days later, that’s my new high. I’ll consider it a sell signal if there’s a sudden drop of -X% from that new high, even if the weekly trend and consistency values are still positive. Your personal level of risk tolerance is what determines what “-X%” is. If the most you’re willing to lose on any single investment is 15%, then that should be your sell signal. The important thing is that the drop is measured from the highest high after your purchase, as opposed to the purchase price. That way you may still exit with a profit.
3. If a stock has come off a high and is still sort of OK based on the first too points, I might also have a look at the stocks volatility. As mentioned earlier volatility is built into the consistency calculation, but you can calculate it by dividing the trend value by the consistency value and ignoring the sign… e.g. ABS(Trend)/Consistency. That tells you what the average price swings (up and down) have been over the past 10 weeks. If volatility is 5% and my stock is down 6%, that’s still not that far from normal weekly fluctuations. But if there were a sudden price drop that was 2 to 3 times normal weekly volatility, that would be a different story… sell!

To use a well-worn saying, “cut your losses and let your profits run”. Never sell because you think you’ve made too much money! That’s a common mistake made by both individual investors and seasoned mutual fund managers. Concentrate on minimizing losses alone, and you can easily do well, even if, say, just 5 or 6 trades are profitable out of 10.

I’ve subscribed to one of your premium service databases and see that you’re providing trend and consistency values for not only the 10-week horizon, but also 20 weeks (Tr20/C20) and 40 weeks (Tr40/C40). How do I use that additional information?

Although I consider RTA to be the next-generation version of trend analysis, those familiar with traditional moving average approaches to price trends have done well by considering multiple time frames for the moving averages. If a 50 day moving average crosses below a 200 day moving averages, that’s oven taken as a sell signal. When the opposite happens, that stock may be a “buy” since the shorter term price average is moving up faster than the longer one. In fact just this past week a “golden cross” took place. That’s when the 50 day moving average for the S&P 500 crosses above the 200 day line. That’s taken to be very bullish among trend practitioners for the equities markets in general.

Within the RTA framework, we don’t use raw price or index data, but the same information is embedded. Rather than generate a chart, you just need to know that Tr10 (the 10-week trend figure) is above Tr40 (the 40-week number). It’s no coincidence that 10 weeks just happen to be 50 trading days and 40 weeks amount to about 200 trading days. As I write this Tr10 for the S&P 500 is +0.8% and Tr40 is +0.3%. This is clearly positive.

An intermediate Tr20 is also included in our premium service databases (roughly 100 trading days). Right now Tr20 for the S&P 500 is +0.6%.

A trader who is more oriented to picking turning points might have bought an S&P 500 ETF when Tr10 rose above Tr20, or perhaps after Tr20 rose above Tr40 (confirmation).

I tend to be a little more conservative… waiting until Tr10 > Tr20 > Tr40, and ensuring that all three are positive. Improving consistency is also a factor.

Do you have any advice for portfolio tracking?

First of all, I can’t emphasize enough how important tracking is. You want to know that you’re outperforming the general benchmarks, and you absolutely need to know when to sell… using some of the suggestions above, and considering your personal tolerance for loss.

There are a number of software packages out there that allow you to track your portfolio’s performance, and many financial web sites (Yahoo! Finance, GlobeInvestor, etc.) have them. No doubt your online broker provides one too. I personally like the flexibility of designing my own portfolio tracker using a spreadsheet program like Microsoft Excel, because it gives me the option of customized calculations that may not be available in the generally available packages (e.g., tracking new highs or lows relative to purchase price, adding in trend and consistency data, etc.). On the other hand, the limitation of the spreadsheet approach is that you need to download the latest data from somewhere and copy it into your spreadsheet on a regular basis. The other approaches typically pull in the current data automatically.

I intend to offer a review of some of the widely available portfolio trackers later this year, but if you’re familiar enough with Excel, and want to give that a try, I offered some guidelines in an earlier issue which you can still find in our archives… http://profitrend.com/tsx_blog/?p=306

I also recommend the benchmarking exercise that I summarize briefly every week… your portfolio vs the S&P/TSX Composite Index or S&P 500 or whatever. That could also be added to your spreadsheet, and the charting capabilities are built into Excel.

So, there you have it… some of the more commonly asked question and my replies. If you have more, feel free to send them along. Keep in mind though, that my answers have typically taken the form of guidelines… not absolutes. Be sure to adapt my remarks to your own situation.

Now, let’s get out there and make some money!

NOTE: The following sections often remain unchanged for a month or longer. We’re now using a symbol to alert you of updates when they occur, or when new sections are added. That might help you skip over sections that you’ve read before. The flag will be removed two weeks after the new material has been added.

INVESTOR CONFIDENCE… As we’ve been reporting regularly, the “Big Money” had been flooding into stocks since last summer. The money flow has apparently changed direction recently.

The State Street Investor Confidence Index (SSICI) has dropped 2.1 points in January from December’s revised level of 94.5. We like the SSICI since it’s not just based on a snapshot of opinion. State Street tracks actual money flows among institutional investors from low risk assets (bonds) to high risk assets (stocks) and vice versa. More equities = more confidence.

As usual one of the more interesting parts of each monthly report is the regional differences. The North America index barely changed at 89.8, the European index was off a very substantial -10.1 to 91.6, and the Asian index rose 3.3 to 96.9.

The next monthly update will be released on February 28.

FOR POWER TRADERS… Join the ranks of our power traders by subscribing to one or more of our Premium Services. Make it a gift to yourself or a trader friend.

Our premium subscription services provide investors with much larger databases of stocks than you’ll find at our web site; and the updates are delivered conveniently via email attachments weekly!

Trend and consistency values for all stocks and ETFs are provided for three time frames… 10-weeks, 20-weeks and 40 weeks using our relative trend analysis™ (RTA) approach. Check our Premium Services page for details on the different choices available, along with lists of the fields provided.

A US Equities Database is now publicly available with nearly 5000 stocks, complete with trend and consistency data.

We also have a newly restored and upgraded “.UN” database of Canadian income trusts, REITs and Master Limited Partnerships (MLPs). Aside from the usual trend and consistency data for 10, 20 and 40 week timeframes, we’ve included annualized yield information, since these vehicles are currently delivering 8% per year on average on top of any capital gains that you’ll enjoy by picking those with consistent positive trend values. In addition there is a field for general type (REIT, MLP, other) and a more specific label for the nature of the business (financial services, real estate, industrial products, consumer goods, etc). We’re offering a one-year subscription of weekly updates for just $49.95. (Sorry, no pay-as-you go monthly option on this one, since the price is already so low.)

BOOK STORE… Investors might appreciate our recommended book section which takes the form of an Amazon mini-book store.  Buy for a fellow investor or treat yourself to some excellent educational reading.

The annually updated seasonality investing books, Brooke Thackray’s 2012 Investor’s Guide and Jeff Hirsch’s 2012 Investors Almanac, also double as desk calendars, so they’re particularly attractive gifts. As with most “calendars”, they get discounted after year-end, so they’re bargains right now.

Keep in mind, too, that when you shop on our Book Store page, we receive a small commission that we apply toward our web site expenses. This is true even if you simply use our link(s) to Amazon to purchase anything else; and, no, you won’t be paying any more than you’d pay by visiting Amazon from any other link.

So, help keep this newsletter free by visiting Amazon from any link you’ll find anywhere on the web site!

MICRO-BLOGS… Follow us on Twitter if you’re so-inclined. A typical “tweet” will draw attention to an interesting perspective on the markets, and include a link to the source. A brief opinion might also be included.

Although we’ve now consolidated our three web sites into one, you can still choose to follow just one or two of our separate Twitter feeds if you like. For predominantly tweets on the Canadian markets follow TSXtrendwatch. For US equities follow USequitytrends . For ETFs follow ETFtrendtracker.

Or, if one Twitter feed is your preference, follow ProfiTrend , which includes the tweets from all of the other three, plus a few more generic investing posts.

If Twitter isn’t your thing, the same regular intra-week updates are routed into “badges” at the ProfiTrend Advantage web site.  Badges are info boxes with the most recent tweets.

On average, there might be 3-5 of these postings weekly, and typically they won’t find there way into our weekly update. For that reason alone, we recommend that you follow us on Twitter or visit http://PTA.ProfiTrend.com frequently, if you prefer that approach.

COMING SOON… Here are a few topics I intend to cover in 2012 (but feel free to offer other suggestions)…

• More chart chat… they’re eye-catching and look scientific, but often they’re a wolf in sheep’s clothing
• Getting friendly with algorithms… you’re already using them, so get to know them better
• Can trading ever be fully automated to the point of creating a money-generating machine?
• What’s “normal”? is a -4% decline in a single week a lot? is an annual 10% gain in your portfolio good, bad or just average? It’s good to have some benchmarks
• Back-testing… you’re wasting your time!

VIDEOS… Whenever we find videos on various investment topics that may be of interest here, we add them to our video jukebox.  Be sure to check that page now and then to take in an interview or commentary from some knowledgeable analysts.

MAILING LIST… If you’re not already receiving TrendWatch Weekly by email for free, be sure to get yourself on our email distribution list.

CONTACT… Contacting us is as simple as sending an email to info@ProfiTrend.com. Put as much info in your message subject field as possible, before elaborating on the problem. Overly simple subject titles like “Problem Report” may not get noticed. Something like “Sector chart is missing in the US Equities Data&Charts page” will stand out.