Technical Analysis

I have been technical analysis to select stocks and options for 24 years. Technical analysis when used in combination with fundamental analysis is a very profitable approach to trading the markets. In my March 24^th blog I discuss fundamental analysis. In today’s blog I am going to focus on the technical analysis I use on a daily basis to profit in the markets. After completing my fundamental analysis I use technical analysis to narrow down my list of eligible stocks.

In my experience the most effective use of technical analysis is to: 

1)    Select a sector in a price uptrend* and then  

2)    Select a stock in a price up trend within that sector for purchase

I will then normally buy one stock or option from each top performing sector to create a diversified portfolio. Quantitative research suggests that approximately one half of a stock’s price appreciation is due to the industry grouping of a stock. Focusing on the top performing sectors provides a constant ‘tail wind’ to your trading success. It allows you to not only narrow down your list of stocks to buy but also provides you stocks with the best profit potential. Even in a bear market there are always market sectors that are in a price up trend and whose stocks are reaching new 52-Week highs. 

* I like to use the 50-Day and 100-Day Exponential Moving Average (EMA) ‘cross overs’ to define a trend. When a stock’s 50-Day EMA (shorter term) crosses above its 100-Day EMA (longer term), the stock is in a price up trend. When a stock’s 50-Day EMA crosses below its 100-Day EMA the stock is in a price down trend. The Exponential Moving Average cross over system allows us to know in advance the most likely future price direction of a stock.

Put options can be purchased on stocks that are in a price down trend. I prefer purchasing put options to shorting stock. Put options limit your risk. Shorting a stock incurs virtually unlimited risk if the stock continues to increases in price.

Step 1

The price graph below displays an ETF sector fund that is in a price up trend. In August the 50-Day EMA crossed above the 100-Day EMA signaling a 'buy’ for stocks within that sector.

Step 2

The price graphs below display stocks that are in a price up trend with their 50-Day EMA (red line) above the 100-Day EMA (green line). These stocks can be purchased if their sector fund is also in a price up trend. Call options and bullish option spreads could also be purchased on these stocks. I avoid stocks whose sectors are in a price down trend even if the stock is in a price up trend.

Trading option spreads on stocks and sectors that are in a price up trend is a good way to profit in the current volatile markets. A limited risk call spread can be implemented by purchasing a call option and selling a call option with a higher strike price. The call purchase and call sale can be made simultaneously or the call purchase can be made with a call sale at a later date. The call purchase profits if the underlying stock increases in price and the call sale profits if the underlying stock decreases in price.

 Actual Trade Results

My brokerage statement below shows option spread trades I initiated using the sector and stock trend analysis just presented. The underlying stocks in this option spread portfolio were in a price uptrend as well as their sectors as defined by the 50/100-Day EMA. The portfolio has a $118,514.37 profit and an average return of 99%.

I make option spread trade recommendations for stocks and sectors in a price up trend for my advisory service as well. The table below lists the current open trade results as of today July 14^th. The spread portfolio currently has a $43,382.00 profit and an average return of 324.7% demonstrating the powerful profit potential available when using fundamental analysis combined with technical analysis.