STP Algo Trader - The Method

Every Saturday, we are going to break down each of the inputs that go into our proprietary algorithmic trading system.

The goal is to show you how our system works and educate you on the why and how these factors can be used to make you money.

The first three issues of “The Method” have focused on elements of our core system.

This is the "15" point system that we use to find the most attractive trading opportunities. In each "The Method" issue, we will focus on one or more of these points and explain the rationale behind them.

While the “15” point system is the core driver of our security identification, it is not the only formula that we are applying to our recommendations.

We have an active EXIT SIGNAL methodology. This drives both our profit-taking and stop losses. We will discuss this in a future issue.

Today, though, we will discuss an element of the system that comes up very seldom. In fact, it has not been enacted since early 2022.

That element is the “BULL SWITCH.”

We strongly believe that there are essentially TWO types of stock market environments.

First, there are BULL markets.

These are consistently rising markets with relatively low volatility. During BULL markets, the indices (S&P 500 is our focus) are almost always above the 200-day moving average and often above the other shorter moving averages.

These BULL market phases have existed for 75% of the time during my thirty-year career.

The second phase of the market is what we would simply call the NON-BULL market. These make up 25% of the time.

Note, that we did NOT say “BEAR” market.

NON-BULL markets have two types.

First (and 15% of the time) are "Consolidation Phases." This is a sideways and violent stock market. It will trade materially (10%) below the 200-day moving average and be punctuated by a spike in volatility.

These can be harrowing periods for investors, but they eventually resolve themselves in a return to a previous BULL market phase.

Examples we would highlight would be the 2^nd half of the 2023 sell-off and the 2020 COVID period.

The S&P 500 can trade off as much as -15% (or even a little more momentarily), and it can take several months (up to six) to return to new highs.

Second (and 10% of the time), there are BEAR markets.

Consolidation phases either resolve themselves into a return to the BULL market and new highs or enter into this phase. Approximately two-thirds of consolidation phases return to BULL markets.

An established downward trend in the stock market indices characterizes a BEAR market. The S&P 500 will eventually bottom somewhere between -20% to -50% (or more) from the high.

They are also high-volatility environments, like the consolidation phases. They are characterized by periods of explosive spikes in volatility, establishing short-term lows. Overall, they see heightened volatility levels that are two to three times those seen in a BULL market.

BEAR markets have many similarities to “Consolidation Phases.” Heightened volatility and losses.

The issue is that the magnitude of the losses makes them even more dangerous when it comes to trading.

The chart above shows the S&P 500 from the start of 2020 until today. On the chart, we have drawn a green trend line for BULL markets and a red trend line for BEAR markets.

We have also draw yellow circles to signify the “Consolidation Phase.” Over this period, we have seen two resolve themselves with a return to the BULL market and one resolve itself with a new BEAR market.

Despite the difference between these two phases – "Consolidation Phase" and BEAR market – from the perspective of the Signal Trader Pro, they are similar enough to employ the same strategy.

Understanding these two phases of the stock market – BULL or NON-BULL market – is key to any trading strategy.

While some very short-term strategies may thrive in both environments, the vast majority of optimal approaches will have significant differences.

This is absolutely true for Signal Trader Pro.

We have a “setting” for BULL markets and a “setting” for NON-BULL markets.

We discussed the details of those settings in a recent issue of STP Algo Trader. You can read that issue here.

For the purposes of our system, we employ what we call the “BULL SWITCH.”

This is when we decide when to switch the setting from BULL to NON-BULL market.

We discussed some of the criteria for that change in the issue noted above, and in the next issue of "The Method," we will go into greater detail on them.

For now, though, we want to inform our readers and subscribers that we have engaged the BULL SWITCH. This happened on Monday, April 7.

These are the ramifications of the change in “setting” …

1) All Signals Require “25” RSI

In a BULL market, we are looking for stocks that trade below a “30” RSI and back above it. Now, we will be looking for them to trade below a “25” RSI and then back above a “30” RSI.

NON-BULL markets have greater volatility, and stocks get more oversold. We both want to protect ourselves and take advantage of it.

All new ENTRY SIGNALS across all scores will now only be generated off of this “25” RSI measure.

2) BULLSEYE Now Only “14” and “15” Scores

Signal Trader Pro provides ALL of our signals across any score.

Every stock with an ENTRY SIGNAL has triggered our technical scores – RSI, Market Cap, Analyst Coverage, Moving Average Verified Uptrend.

Once they have triggered those, though, they will differ on the fundamental scores.

This is why we have some stocks with ENTRY SIGNALs that score an “8” and some that score a “14.”

We provide this raw data to every subscriber for their use.

Our RECOMMENDATIONS, though, are based on what we call “BULLSEYES.”

In a BULL market phase, these are all stocks with a "12" or above score.

In a NON-BULL market phase, we will only include "14” s and “15” s as active BULLSEYE recommendations.

It is crucial to become more selective and focus on the highest quality companies in these periods of heightened volatility.

3) BULLSEYE Open Signal Reset

After we trigger the BULL SWITCH to NON-BULL, we will then look to generate EXIT SIGNALS for existing BULLSEYE recommendations with "12" and "13" scores.

We have a well-thought-out methodology for generating these signals over a five-day trading period.

This process will begin this coming Monday, April 14.

As a result, subscribers are going to EXIT SIGNALS for all open BULLSEYE ENTRY SIGNALS with a “12” or “13” score.

This is an essential reset to the strategy.

While these “forced” EXIT SIGNALS happen over this period, the existing EXIT SIGNALS will also be updated to incorporate the material change in the price in the stock. This will not impact the stop loss, but will result in lower profit-taking EXIT SIGNALS. This does not mean lower returns and our experience has shown us that exits will generate better returns in this high volatility environment.

By the end of the week, the result will be a much smaller number of open ENTRY SIGNALS at Signal Trader Pro.

In a future "The Method" issue, we will go through this exit strategy methodology in detail.

The algorithmic trading system that drives Signal Trader Pro is something we have developed over our three-decade career in the markets.

The most important part of being a successful trader is not making money in BULL markets but learning how to SURVIVE when not in a BULL market.

We have implemented systems and practices to properly react to a change in the overall environment. These are in place to optimize our returns over a market cycle.

We now are engaging that BULL SWITCH and look forward to taking advantage of this period of heightened volatility.