Stock Market Trading - Trading System

The current article spins-off from our previous article Technical Analysis and Decision Making. Please go through this article before proceeding further with the current article to get a better overview of what is being explained here.

Trading and investing in Stocks for short-term is an art and the more you practice and use it, the more accuracy you would have. The immediate next question one would have in mind is, "How to find the best stocks that would definitely go up". Now this is a $Million dollar question nobody has answer for. If someone did, he would have been a Billionaire already. If there is no answer to this question, then what is this article for.

Pattern recognition has been used by people across the globe for various purposes, from meteorologists to detectives. What do they do. They establish a pattern and predict what might happen next. This scientific approach minimizes the probable options that you have to look for. Without which you are more or less playing a lottery game, which has odds of 1 in many millions. This article is the first in our Series of Articles that would show how to create your own "pattern recognition system" and find good opportunities for short-term Swing trades for good profits.
Technical Indicators MUST always be used in conjunction, ie. NEVER use a single technical indicator to place your trades. Use as many as you can. This gives you a comfort level as your stance(buy/sell on a stock) has been confirmed by many technical indicators. This Article attempts to create a Trading System using MACD and MFI. MACD as is popularly known gives you a short-to-medium term overview of a stock and MFI tells you if "Good money" is flowing into or out of a security.

Let us Consider TCS from the Indian Market as it is one of the street favorite.

In this example Our System is made up of the following conditions.
  • MACD 3 days lower.
  • MACD MACD line above 0.
  • Money flow index 3 days lower below 75 line.

You could as well use, "Money flow index 3 days lower" and "MACD crossed DOWN 9 day MACD EMA above 0".

Explanation: The above system is a set-up to Sell-Short. If you used our screener with these conditions around late February, you could have made over 20% within a short time.
If MACD has been going down for 3 days in a row, then this is a concern.

Similarly, we want only those stocks that are Strong, if we want to short. And hence we selected the option MACD to be above 0. Stocks above 0 macd are considered to be very strong.
MFI 3 days lower, and that too below 75 line. This indicates that the strong money that has been in the security is gradually moving out.

All of the above conditions take us to our near to perfect Bearish/Sell-Short setup.

Let us now consider same TCS from Long perspective and the System/conditions for this setup would be as below.
  • MACD 3 days higher.
  • MACD MACD line below 0.
  • Money flow index 3 days higher above 25 line.

Explanation: If you used our screener with these conditions around early May, you could have made over 20% within a short time.

We want to select only stocks that have their MACD going up for 3 days in a row. This shows that the stock is generating interest.

MACD below 0, because stocks that are above 0 are already strong. Which means, profit potential is limited. As opposed to those that have MACD below 0.
MFI 3 days higher gives us another confirmation that there is strong money flowing into the security for 3 days in a row.

Again, by no means ALL setups will work. If you used the above setups and ended up with say 20 stocks, you can pick the one that gives the maximum confirmation(maximum number of indicators) in the trend you are working with(long or short). Please Note: This article can be re-published as long as the source is mentioned.
Earlier Articles: