Supplement to: Short term timing in the SPY ETF: Today’s price change impacts tomorrow’s return

This study is a supplement to the article, “Short term timing in the SPY ETF:  Today’s price change impacts tomorrow’s return” published at Minyanville.

Between our two SPY short-term timing articles, we have tested the concept, “short term market weakness is followed by above average returns” a number of different ways.  Lets add one more rule to the mix:

  • If today’s close is less than the close two days ago, buy.  If already long and a new buy signal is generated, stay long.
  • Sell when today’s close is greater than or equal to the close two days ago.

This rule-set would have created 434 trades during our test period and was in the market 45% of the time.  Here is a chart of the equity curve vs. buy and hold:

Lets combine the above rule-set with the concepts outlined in the original article.  Because we are adding an additional rule, we will loosen up the parameter from, “Long if down greater than 1%” to, “long if down greater than .5%.”   The -1% rule created a higher average return, but cut the number of trades back to too low of a level.

Are you interested in long-term stock timing systems?  You might like this article.

Here is our modified rule-set:

  • If today’s close is less than the close two days ago and today’s close is less than yesterday’s close by greater than .5%, buy or stay long
  • Sell when these conditions are not met

Here is the equity curve vs. buy and hold:

What we find is that over our simulation period, the combined rule-set’s return is not much higher than the “buy if today’s close is less than the close two days ago” rule.

However, there are some other very important differences.  The average daily return for the combined rule-set is more than double the single rule system, and the time in the market has been cut in half.  The equity curve is also smoother with fewer significant drawdowns.  For those interested, the T-Test statistic has been reduced from about 5% to 3%, which suggests that the results are more statistically significant.

I have one additional idea that I want to share as part of this series, however I have decided to put it in the library for the NAS Trading member service.  The concept is very similar to what we have examined here and is an extremely simple rule-set.  Two important differences are that this system never holds for longer than the current day session, and it uses a limit order for the trade entry.  I have specified that the market price must trade through the limit price in order for a trade signal to be generated.

This is an approach I developed for trading S&P 500 futures, not the SPY ETF.  Regardless, the rule-set is identical and the results are basically identical when tested on SPY data.

As pain free as this system looks on a long-term chart, it would have been psychologically difficult to trade this system because the rule-set seems to be counter-intuitive to human emotional response.   There is also (of course) no guarantee that results will continue to be strong in the future.

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