The Modified Davies Method Suggests the Time is Close

[Comment by PT: Readers not familiar with Frank’s MDM trading system should check out these previous articles on the topic: Modified Davies Method and Reader Question on the MDM. Technical analysis generally has the problem that the data of the past as such cannot really tell us anything about the future. However, data like market internals do tell us something about the degree of investors’ risk appetite, resp. risk aversion and how they are changing over time. Such information is often useful as an early warning indicator of impending trend changes. A side note: the MDM is solely focused on the Russell 2000 Index.]

Probably the most difficult thing to do in stock market investing is to identify a good time to sell. Many technical indicators have been devised to identify lows around the time they occur or soon thereafter, with a moderate degree of success, but to my knowledge that has not really happened for tops.

 

$RUTThe Russell 2000 Index (RUT) and the S&P small cap advance/decline line over the past year – click to enlarge.

 

My own Modified Davis Method does not do a very good job at this either. It does profit on the short side, but on balance just barely. In fact, were it not for the occasional severe bear market when my method will be short, or at most 50% long and thus leave significant funds at one’s disposal to invest near the beginning of the next bull market, it probably would not do any better than buy and hold over the long term.

But I have discovered a tendency which I think is nice to know, based on the length of the breadth divergence period preceding the signal to go short. Attached is a list of all of the short trades in the forward test, arranged by number of consecutive weeks of divergence in effect at the time of the signal.

It appears that the divergence must be in place for at least 13 weeks to have a good shot at a successful short. In particular, it also appears that there is a “sweet spot” from 41 to 79 weeks.

There, the probability of a profitable short trade has been 0.80. Over the entire period under consideration there were 5 shorts that resulted in double-digit profits, and 2 of them occurred in this interval. Beyond 79 weeks the probability of success declines significantly. Bear in mind that the method shorts at the 50% level, so these figures would be doubled if it shorted at the 100% level.

Overall there does not seem to be anything here that could be incorporated into the algorithm, and even if it could, that obviously could not be considered as part of the forward test. The only thing to do is to take every short as it comes, as one never knows for certain when “the big one” will begin.

At the last short signal (12/11/15), a divergence had been in effect for 31 weeks. At the time of writing, the figure is 33 weeks, and it will take a very strong market to end this condition. The current short position may not end profitably, but the next short may have a good chance of taking place in the above mentioned 41 to 79 week sweet spot.

 

List of all MDM short signals since 1969 and their results. Ordered by the duration of the breadth divergence preceding the signal (“sweet spot” periods underlined):

 

Short                                Consecutive weeks

Beg Date           Result         of divergence

========   ======   ==============

2002/05/10       9.82 %       1 week.

1991/11/22       -4.18 %       2 weeks.

2006/05/19       -0.14 %       3 weeks.

2007/07/27       -0.70 %       3 weeks.

2014/07/18       -0.99 %     3 weeks.

1976/04/15       -0.80 %     4 weeks.

2004/04/30      -0.76 %     4 weeks.

2005/08/26       -2.27 %     4 weeks.

2014/09/26       0.02 %     4 weeks.

1987/04/24       -1.73 %     5 weeks.

1996/06/21         2.39 %     5 weeks.

1978/10/20       0.77 %     6 weeks.

1995/10/27       -2.55 %     6 weeks.

1998/05/29       -0.15 %     7 weeks.

1983/08/12       1.29 %     8 weeks.

1989/10/13       2.39 %     8 weeks.

1986/07/25       1.06 %     9 weeks.

2006/07/14       -2.23 %     11 weeks.

1980/12/12       -2.54 %     12 weeks.

2015/08/07       1.72 %     13 weeks.

1998/07/24       8.59 %     15 weeks.

2007/10/19       4.27 %     15 weeks.

1972/06/09       1.72 %     19 weeks.

2002/09/20       0.54 %     20 weeks.

1976/08/20       -1.38 %     22 weeks.

1981/02/20       -2.80 %     22 weeks.

1962/04/27       8.53 %     25 weeks.

1979/03/02       -2.54 %     25 weeks.

1998/10/02       0.99 %     25 weeks.

1976/10/08       -1.15 %     29 weeks.

1987/10/09       14.00 %     29 weeks.

1986/12/26       -4.16 %     31 weeks.

2002/12/13       1.51 %     32 weeks.

1984/02/03       3.05 %     33 weeks.

2008/02/22       -1.32 %     33 weeks.

1979/05/11       -2.47 %     35 weeks.

1990/04/27       -2.40 %     36 weeks.

1981/07/02       7.27 %     41 weeks.

1999/02/12       -2.90 %     44 weeks.

1962/09/21       1.20 %     46 weeks.

1990/07/27       7.02 %     49 weeks.

1973/01/19       10.62 %   51 weeks.

2008/06/27       -0.87 %     51 weeks.

1966/05/06         7.95 %     52 weeks.

1979/10/12         0.40 %     57 weeks.

2008/09/26     11.87 %   64 weeks.

1982/01/08         4.57 %   68 weeks.

1984/10/05       -0.32 %   68 weeks.

1999/07/30         0.27 %   68 weeks.

2008/11/07         3.23 %   70 weeks.

1980/03/07         4.23 %   78 weeks.

1988/09/23         0.12 %   79 weeks.

1973/08/10       -0.60 %   80 weeks.

2009/01/16       -0.46 %   80 weeks.

1980/04/18       -2.57 %   84 weeks.

2009/02/13         6.16 %   84 weeks.

1982/05/28         2.64 %   88 weeks.

1973/11/02         6.02 %   92 weeks.

1991/07/05       -2.33 %   98 weeks.

2000/03/17         8.08 %   101 weeks.

1974/01/11       -2.24 %   102 weeks.

2009/07/02       -2.21 %   104 weeks.

2000/05/12       -2.25 %   109 weeks.

1974/03/29         4.55 %   113 weeks.

2000/07/28       -2.58 %   120 weeks.

1974/06/21      10.13 %   125 weeks.

2000/09/22     1.07 %   128 weeks.

2000/11/10     0.19 %   135 weeks.

1974/10/04     -5.90 %   140 weeks.

2000/12/15     -2.78 %   140 weeks.

2001/01/05     -2.44 %   143 weeks.

1968/02/09     -1.34 %   144 weeks.

1974/11/22       0.53 %   147 weeks.

2001/02/23     1.12 %   150 weeks.

1968/08/02     -3.37 %   169 weeks.

1969/02/20     0.43 %   198 weeks.

1969/06/06     6.18 %   213 weeks.

1969/11/21      15.93 %   237 weeks.

1970/06/26    -1.25 %   268 weeks.

1970/08/14     -4.64 %   275 weeks.

1970/10/23     -0.71 %   285 weeks.

 

Chart by: StockCharts

 

Frank Roellinger is a retired software engineer who worked for a major computer manufacturer for nearly 34 years. He has been an avid follower of markets for more than 30 years, with a strong preference for technical over fundamental analysis. After observing the results of many different ways to approach markets, he settled upon long-term trend following. He once hoped to develop a mathematically-based model of the stock market, but now sees little point in doing that, as his Modified Davis Method works as well as any other purely mechanical method that he thought he might ever find.

 

 

 

Emigrate While You Can... Learn More

 


 

 
 

Dear Readers!

You may have noticed that our so-called “semiannual” funding drive, which started sometime in the summer if memory serves, has seamlessly segued into the winter. In fact, the year is almost over! We assure you this is not merely evidence of our chutzpa; rather, it is indicative of the fact that ad income still needs to be supplemented in order to support upkeep of the site. Naturally, the traditional benefits that can be spontaneously triggered by donations to this site remain operative regardless of the season - ranging from a boost to general well-being/happiness (inter alia featuring improved sleep & appetite), children including you in their songs, up to the likely allotment of privileges in the afterlife, etc., etc., but the Christmas season is probably an especially propitious time to cross our palms with silver. A special thank you to all readers who have already chipped in, your generosity is greatly appreciated. Regardless of that, we are honored by everybody's readership and hope we have managed to add a little value to your life.

   

Bitcoin address: 12vB2LeWQNjWh59tyfWw23ySqJ9kTfJifA

   
 

Your comment:

You must be logged in to post a comment.

Most read in the last 20 days:

  • America Goes Full Imbecile
      Credit has a wicked way of magnifying a person’s defects.  Even the most cautious man, with unlimited credit, can make mistakes that in retrospect seem absurd.  But an average man, with unlimited credit, is preeminently disposed to going full imbecile.   Let us not forget about this important skill...  [PT]   Several weeks ago we came across a woeful tale of Mike Meru.  Somehow, this special fellow, while of apparent sound mine and worthy intent, racked up...
  • Retail Capitulation – Precious Metals Supply and Demand
      Small Crowds, Shrinking Premiums The prices of gold and silver rose five bucks and 37 cents respectively last week. Is this the blast off to da moon for the silver rocket of halcyon days, in other words 2010-2011?   Various gold bars. Coin and bar premiums have been shrinking steadily (as have coin sales of the US Mint by the way), a sign that retail investors have lost interest in gold. There are even more signs of this actually, and this loss of interest stands in stark...
  • Credit Spreads: Polly is Twitching Again - in Europe
      Junk Bond Spread Breakout The famous dead parrot is coming back to life... in an unexpected place. With its QE operations, which included inter alia corporate bonds, the ECB has managed to suppress credit spreads in Europe to truly ludicrous levels. From there, the effect propagated through arbitrage to other developed markets. And yes, this does “support the economy” - mainly by triggering an avalanche of capital malinvestment and creating the associated boom conditions, while...
  • Gold Divergences Emerge
      Bad Hair Day Produces Positive Divergences On Friday the ongoing trade dispute between the US and China was apparently escalated by a notch to the next level, at least verbally. The Trump administration announced a list of tariffs that are supposed to come into force in three week's time and China clicked back by announcing retaliatory action. In effect, the US government said: take that China, we will now really hurt our own consumers!  - and China's mandarins replied: just you wait, we...
  • Industrial Commodities vs. Gold - Precious Metals Supply and Demand
      Oil is Different Last week, we showed a graph of rising open interest in crude oil futures. From this, we inferred — incorrectly as it turns out — that the basis must be rising. Why else, we asked, would market makers carry more and more oil?   Crude oil acts differently from gold – and so do all other industrial commodities. What makes them different is that the supply of industrial commodities held in storage as a rule suffices to satisfy industrial demand only for a...
  • Chasing the Wind
      Futility with Purpose Plebeians generally ignore the tact of their economic central planners.  They care more that their meatloaf is hot and their suds are cold, than about any plans being hatched in the capital city.  Nonetheless, the central planners know an angry mob, with torches and pitchforks, are only a few empty bellies away.  Hence, they must always stay on point.   Watch for those pitchfork bearers – they can get real nasty and then heads often roll quite literally....
  • Lift-Off Not (Yet) - Precious Metals Supply and Demand
      Wrong-Way Event Last week we said something that turned out to be prescient:   This is not an environment for a Lift Off Event.   An unfortunate technical mishap interrupted the latest moon-flight of the gold rocket. Fear not true believers, a few positive tracks were left behind. [PT]   The price of gold didn’t move much Mon-Thu last week, though the price of silver did seem to be blasting off. Then on Friday, it reversed hard. We will provide a forensic...
  • Cryptocurrency Technicals – Navigating the Bear Market
      A Purely Technical Market Long time readers may recall that we regard Bitcoin and other liquid big cap cryptocurrencies as secondary media of exchange from a monetary theory perspective for the time being. The wave of speculative demand that has propelled them to astonishing heights was triggered by market participants realizing that they have the potential to become money. The process of achieving more widespread adoption of these currencies as a means of payment and establishing...
  • The Fed's “Inflation Target” is Impoverishing American Workers
      Redefined Terms and Absurd Targets At one time, the Federal Reserve's sole mandate was to maintain stable prices and to “fight inflation.”  To the Fed, the financial press, and most everyone else “inflation” means rising prices instead of its original and true definition as an increase in the money supply.  Rising prices are a consequence – a very painful consequence – of money printing.   Fed Chair Jerome Powell apparently does not see the pernicious effects...
  • Merger Mania and the Kings of Debt
      Another Early Warning Siren Goes Off Our friend Jonathan Tepper of research house Variant Perception (check out their blog to see some of their excellent work) recently pointed out to us that the volume of mergers and acquisitions has increased rather noticeably lately. Some color on this was provided in an article published by Reuters in late May, “Global M&A hits record $2 trillion in the year to date”, which inter alia contained the following chart illustrating the...

Support Acting Man

Item Guides

j9TJzzN

The Review Insider

Dog Blow

Austrian Theory and Investment

Archive

350x200

THE GOLD CARTEL: Government Intervention on Gold, the Mega Bubble in Paper and What This Means for Your Future

Realtime Charts

 

Gold in USD:

[Most Recent Quotes from www.kitco.com]

 


 

Gold in EUR:

[Most Recent Quotes from www.kitco.com]

 


 

Silver in USD:

[Most Recent Quotes from www.kitco.com]

 


 

Platinum in USD:

[Most Recent Quotes from www.kitco.com]

 


 

USD - Index:

[Most Recent USD from www.kitco.com]

 

Mish Talk

 
Buy Silver Now!
 
Buy Gold Now!
 

Oilprice.com