Adjusting For Profitability
Moving Averages Long On Talk, Short On Action
Making a minor adjustment to a popular indicator can make all the difference in profitability.
Although the technical literature is replete with articles discussing the efficacy of moving averages to forecast future stock prices, after analyzing the three-, eight-, 13-, 21-, 34-, 50-, 100-, and 200-day simple moving averages, the results were disappointing. In looking back at the performance of the regular trading session (November 1, 2002-December 31, 2006), the single positive result came from the 34-day moving average, which had an insignificant gain of 68.5 cents (Figure 1).
FIGURE 1: TRADING MOVING AVERAGES. Although the cues were able to produce an $18.60 profit during this time frame, trading a simple moving average across seven different time frames proved to be unprofitable, with the 34-day SMA being the single exception. But with two simple adjustments, the average daily profit on a 1,000-share long position in the regular trading session was worth $124 per trade, with a 71% success rate.
So why should we keep subscribing to trading moving averages? Because by making two simple adjustments, our average profit improves to $124 for each 1,000-share long position along with an impressive 71% winning percentage.
MONITORING PERFORMANCE
With an advance of $18.60 we would certainly expect moving averages to produce stunning results. This gain, however, is somewhat deceptive, because the 1,049 trading days gave us a regular session loss of $1.64. Therefore, when restricting our trading to the 09:30-16:00 ET time frame, we would anticipate a small setback.
Since the most effective outcome was found using a 34-day simple moving average (SMA) -- a component of the Fibonacci recursive sequence (1,2,3,5,8,13,21,34) -- this study will restrict its analysis to trading a long position in the cues using a 34-day SMA.
SIMPLE MOVING AVERAGE
A moving average is perhaps the best-known smoothing technique. Although the time frame can be flexible, the more days in your analysis, the less emphasis given to more recent days by distributing the same weighting for each score. This causes the system to respond slowly to sudden changes, and therefore, its signal is lagging behind changes in the actual price of the cues.
...Continued in the May 2007 issue of Technical Analysis of STOCKS
& COMMODITIES
Excerpted from an article originally published in the May 2007 issue
of Technical Analysis of
STOCKS & COMMODITIES magazine. All rights reserved. © Copyright
2007, Technical Analysis, Inc.
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