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How I Use Technical Analysis to Find Stocks!

Posted by Pete Stolcers on June 21, 2006

In today’s option trading blog I will discuss why I rely heavily on fundamental analysis in the latter stages of my research. I don’t start with fundamentals because I don’t want to wait around for five years while market figures out that AAPL is a good stock. That company was sitting at $15 with a pile of cash for years. Once it broke out in 2004, it was time to consider it. That pretty much explains why I start my research with technical analysis.

I want to make sure the stock is on the move so that I can make my money and get out. After all, as an individual, that is my edge. Large firms can’t be in and out of a stock so they rely heavily on fundamental analysis. They tour the company and attend shareholder meetings knowing that they’re in for the long haul.

I start my technical analysis by programming long-term indicators into proprietary searches. Without getting too specific, having a a 200-Day moving average that is higher today than it was 20 days ago is of interest if I’m looking for a bullish stock. Having an ADX that is over 35 and rising is also of interest. Finding a stock where the 20 day average daily volume is higher today than it was 10 days ago is also of interest. These are a few examples of the technical analysis that is built into my research before I even look at a chart. Most of my studies are based on relative value (where the indicator is now, relative to where it was a month or two ago). This filters out the vast majority of stocks on macro basis. As my analysis zooms in on the present, my searches target four basic set-ups I like to trade. On average, about 300 stocks make the list on a daily basis (bullish and bearish).

I trade break-outs/break-downs, gaps, trends and greenlines/redlines. These set-ups represent recent price action. A break-out/break-down is a 10-day high/low. A gap up is defined as stock with a low today that is greater than the prior day’s high (inverse for gap down). I like gaps so much that I even look at two and three day old gaps. A trend is defined as three or more consecutive closes in one direction. A greenline is defined as an open near the low (no gap) and a close near the high (inverse for redline). To recap, my proprietary searches start with macro indicators and end with the tail-end of the chart – the most recent price action.

There is a dilemma that every programmer faces. Searches can be too open (valuable time wasted sifting through symbols) or they can be too restrictive (most good trades are eliminated). I have found an optimal balance. The majority of stocks are filtered out by my search engine and the final step of the process uses the most powerful tool I know – a trained eye. I have and interface that allows me to quickly flip through charts. If a chart looks good I zoom out to a one month view. If it still looks good, I zoom out to a 1-Year chart.

When I perform visual technical analysis I look for nice tight price patterns. Once I have a handful of solid candidates that I really want to explore, I keep my tools pretty basic. I look at moving averages (20, 50, 100, 200), volume, trend lines and horizontal support/resistance levels. At this juncture I use the logic that if every other trader feels the level is important, so do I. If I can spot it so can they. If it is breaks, the event is significant because it will affect the demand/supply.

I am not a big fan of Oscillators, Fibonacci Lines, Elliott Wave… It’s not that they don’t work, they don’t work for me. There are a gamut of other indicators. Some are leading and some lagging. I’m certain a case can be made for all of them. Once a stock is in front of me all I want to do is measure it’s relative strength/weakness to the market. I do that by watching it trade. This is not the right way, it’s just my way. You have to find what works for you.

Once all of the technical analysis is done, I review the fundamentals of the company. This part of my research gives me “staying power”. I’m intimate with the company and I know what’s driving the stock. I also know if there are any news events on the horizon. The resulting “piece of mind” helps me take a little heat on the position without the fear that I’ve missed something.

All of my trade ideas come from my searches. Want to check out six of my bullish proprietary searches? Click Here. You’re bound to see some good stocks.

Please comment and share your “gems”.

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Posted in Analysis - Technical, Fundamental, Market

Option Trading Comments

  • On 06/27, Jim Stumbo said:

    Pardon my ignorance, but what is ADX?

  • On 06/28, Mike P. said:

    What a great and useful article. I used to (and sometimes still do) suffer "information overload" when it comes to indicators, as I find more often than not there are enough indicators to push me in or out of every trade! I have to focus on a few and ignore (or pay less attention to) the rest.<br>What I do look at is sentiment; things like the put-to-call ratio, level of short interest (percentage of float and days-to-cover), lopsided levels of puts and calls at various strikes, as well as analyst ratings. I find that optimistic sentiment on a downtrending stock is a good reason to be bearish, as 1) no one’s left to buy (little/no shorts to cover, few analysts to boost) and 2) overwhelming numbers of calls tend to act as resistance (vice-versa with puts as support). A good example is MSFT and INTC--both have had an abundance of bulls for some time with little left to buy; whereas everyone was negative on GM this year and it’s been the Dow’s best performer.<br>Do you ever look at such elements, Pete? I’m curious because (without giving too much away) of two recs in Level One, both have relatively optimistic analyst sentiment, low relative YTD P-to-C ratios, low days-to-cover short volume, as well as call-related resistance, both have come down in recent months, yet we’re long one and short the other. Just curious if such a thing ever enters into your evaluation process, or if you just ignore it all completely. Thank you again for the article.

  • On 06/29, Mike P. said:

    Thanks much for taking the time to answer. Considering how many times I’ve gotten screwed by ignoring sentiment, I find I have to pay attention. Regarding your comments on analysts, that’s exactly why I used examples like MSFT and INTC. When everyone’s been buying and recommending for so long, who’s left? That’s only why I was curious about our long that is showing similar optimism (80% buys or better, SOIR of 7%, SIR under 2). But there are always exceptions. Hopefully it all works out! Thanks again.

  • On 07/31, Arvydas said:

    I found that most of beginners overvalued Oscillators. They treat it as a secret weapon, which leads them to victory. But I think that Oscillators are good only on flat trend- then they give more or less reliable signals. On strong trend they will cheat you at first- while price will continue its strong way up or down- oscillators will show stock overbought or oversold giving the signals to play against trend. And if you will be cached up on this your trading account will be hurt a lot.

  • On 07/31, Pete Stolcers said:

    I agree. It’s good to know when the underlying is overbought/oversold, but I would not trade off of that information. Conditions can be overbought for long periods of time and if you are trading the reversal, you will have your head handed to you if a longer term move is unfolding. I’m sure there are traders that are very skilled at inerpreting the indicator. I have just found other analysis to be more reliable.

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