Trader Fred throws a surprise at us

Stocks seem to be taking a little break as the Dow and S&P were slightly down yesterday after another day of late selling. The small caps and international stocks acted much better and finished higher on the day.

If you follow a lot of market timers as I do, it is very difficult to find someone who doesn't think this market is due for a break and at least a minor pullback. It is so tempting to take some profits here and sit on the sidelines and wait, but something happened in the market yesterday that got the TSP Trader System's attention as two more submodels gave a buy signal.

I was very late to the party as I jumped into stocks last Friday (close of business Thursday) after the System gave a buy signal. I was very nervous about the current short-term market environment but decided to put my emotions aside and go with the trade. In the three days since the buy signal, the System's recommended allocation is up 1.34%.

With the long holiday weekend coming up, I had considered taking some profits rather than risk giving back those gains, but now the System's submodels have given two more buy signals. That's 3 total. That doesn't mean the market won't go down. It just means in the past, the market has done well under similar conditions.

I can show you some charts that say things look good, and others that tell us to be cautious. I may make some moves in and out of the market because I just don't have big gains this year to to play with, and the stop loss for these trades are a little lower than I may be willing to accept.

One thing the system can't do is anticipate sudden events or news that could greatly influence the market in the short-term. Although I have always thought the market somehow knew things before we do; Like one great master mind made of millions of market participants. So maybe the system can see it coming if the market anticipates it first. I like to give the example of how the Dow was down 10% during the two weeks prior to 9/11/2001.

Anyway, I will post Trader Fred's current commentary here so we are figuratively and literally on the same page:

UPDATE: Close of Business Tuesday, May 22, 2007

Submodel W gave a buy signal last week and the TSP Trader System entered the market. At the close of business today (Tuesday), Submodels A and X also gave Buy signals. This means the current trade will end when all three submodels (A, W, & X) have given their respective Sell signals. This TSP Trade system will also end if the C Fund stop of $16.69 is hit.

The overall goal is for each trade to exit the market with a gain of at least one percent in the C Fund. So far, this goal has not been reached. Checking in each day with the TSP Talk web site is encouraged as this trade is happening under weak to neutral market conditions. Entering the C, S & I Funds after last Thursday is not recommended. Submodel W uses the fund prices for the close of business on Wednesday and Thursday of last week in all its calculations. Entering TSP funds after last Thursday morning would place one well outside how Submodel W views the market. At this point, Submodels A and X are just along for the ride until the initial Submodel W trade ends.

The first image shows the C Fund’s Gain-Strength chart. This chart shows what the market is doing during this Submodel A, W, X trade. The Loss—Gain (horizontal axis) value decreased slightly (headed West) for the S&P 500 Index (C Fund). The market strength (vertical axis) value increased once again (headed North). Heading Northwest is not an especially desirable direction for a trade.

The overall market strength (blue line) is along the green line in the second image. This is a neutral condition between the lower weak market and the upper strong market regions. Little if any historical data adequately describes a neutral market condition. This chart is a leading indicator of the market’s behavior by at least week or more. In general, it is difficult for the black line (C Fund) to move up when the blue line (market strength) has been flat for a while or is sloping down. The vertical location of the black line has no relationship to the vertical location of the green or blue lines, whose scale is on the left. The C Fund (black line) scale is on the right.

The third image below is the summed NYSE volume versus Gain-Strength chart. Apparently, a market pile up is starting to happen (green circle). Historically, it has taken four to five days of piling up before a market release happens. Recently, that market release has been a one-day gain or loss of at least one percent in the value of the C Fund (S&P 500 Index). Therefore, by the end of this week something exciting should have happened to the current TSP submodel trade. For general information, the historical back testing results for Submodels A & X follow the third image.

Submodel A Stop Rules

1) Historically, there have been eight Submodel A trades from mid-July, 2004 to April 2007.

2) Those Submodel A trades last for about 3 weeks. The total time in the market went from a week to just under a month.

3) The average gain during the back testing for a Submodel A trade has been 2.8%.

4) The gains and losses went from +8% to -5%.

5) 1 out of the 8 Submodel A trades during the back testing did not have a daily loss during the time the trade was in the market.

6) 7 of the 8 Submodel A trades experienced one or more days when they lost money during the back testing.

7) 15% of the days the Submodel A trade was in the market there was at least one day that had a loss of between -0.1% and -0.5%.

8) 10% of the days the Submodel A trade was in the market there was at least one day that had a loss of between -0.5% and -2%.

9) 3% of the days the Submodel A trade was in the market there was at least one day that had a loss of between -2.0% AND -3.5.

10) Based on the back testing and using the C Fund, the stop for Submodel A is if on any one day the percent loss is greater than or equal to -2.0%, then the trade is exited the next morning.

Submodel X Stop Rules

1) Historically, there have been eight Submodel X trades from mid-July, 2004 to April 2007.

2) A Submodel X trade lasts for about 2.5 to 10 Months. The total time in the market went from a week to ten months.

3) The average gain during the back testing for a Submodel X trade has been +3.5%.

4) The gains and losses went from +11.0% to -1.0%.

5) 5 of the 8 Submodel X trades during the back testing did not have a daily loss during the time the trade was in the market.

6) 3 of the 8 trades did experience one or more days when they lost money during the back testing.

7) 3% of the days the Submodel X trade was in the market there was at least one day that had a loss of between -0.1% and -1.0%.

8) Based on the back testing and using the C Fund, the stop for Submodel X is if on any one day the percent loss is greater than or equal to minus one percent (-1.0%), then the trade is exited the next morning.

The possibility always exists a submodel trade may not be profitable. Investing in the stock market is always a gamble, as past performance does not guarantee future performance.

-- Trader Fred