7/4/2007 11:25:03 AM
How to utilize the DSB 'Spread Indicators' in your own trading.
Each day, we feature Spread Indicators for the Nasdaq 100 (QQQQ), Gold (GLD), Bonds (TLT) and now Oil (USO). Spread Indicators monitor the stock (or ETFs) momentum. We utilize them to develop our overall outlook for the market. Here's how you can use them to set up trades.
The spread indicators are algorithms that measure at the 'spread' between various short, intermediate and longer term moving averages - designed to correlate to the DSB. You'll note that each Spread Chart has two lines. A short term spread (yellow and dotted black line) and an intermediate term spread.
For the most part, the market will follow one or the other of the time frames covered by these indicators. It's impossible to know which one it will follow (only possible in hindsight). And it's also important to understand that as a momentum indicator, a stock can keep moving, but its momentum can slow and give a sell signal before the move. From that perspective, you can consider the short term indicator an early warning and the longer term indicator more for confirmation.
You see, the market operates in several time frames over the course of a year. For example, the last 2 months have featured a short term consolidation - where the top and the bottom of the current trading range can be reached in 2-3 days. This is not the most ideal market for mid term traders and momentum indicators, unless calculated on a very short term basis - almost intra day - are not the best indicator to use in these markets. No matter - because if you diversify and trade more than one uncorrelated index, you should be able to find profitable movement somewhere.
The next important component of the Spread Charts is the zero level, which is marked on each chart. Consider it the balance point between strength and weakness. For example, a spread indicator may give a short term sell signal above zero, which would suggest consolidation in an uptrend - unless the spread indicator moves below zero. That's when the sell mode should gain price traction (or efficiency).
So we give more weight to a sell signal below zero, just as you'd give more weight to a buy signal above zero. You also want to look for extremes - i.e. when the indicator is at an extreme or relative high level, then you know it's going to reverse. The key there would be to look for a chart or technical reversal parameter in order to set up your sell signal - or if you're already long and just looking to sell, if you have a decent profit, there's nothing wrong with selling at that point.
Now let's take a look at our various spread indicators and what they're saying (beyond our normal comments).
QQQQ Spread - short term is in buy mode, recently crossed above zero, but the intermediate term appears to be setting up for a reversal lower. If we get the weak action I expect following the holiday, both these indicators will return to sell mode and quickly cross zero.
GOLD Spread - Gold just moved into Buy Mode on a short term basis. The intermediate line has flattened out. Technically GLD remains in a downtrend and is flirting with support - so a cross above zero here would be bullish for gold, in the short term and we'd have to monitor what happens with the intermediate (mid) term line to get confirmation of the change in momentum. Another line in our Gold Spread Charts is the leading indicator. When this line changes direction, it suggests gold will change direction. It's projected into the future and something we monitor.
USD Spread - We monitor the dollar because it has a big potential impact on gold and on the US Economy (and as I recently pointed out - it added 50% to the cost of everything on my recent trip to Paris). The dollar spread is in Sell Mode, Below Zero, on both a short term and intermediate term basis and prices are testing recent long term lows. This bearishness on the dollar should bode well for a stronger move up on gold. Something we'll be on the look out for. There are actually currency ETFs and Dollar ETFs that move inline and inverse to the dollar that can be utilized for further diversity. I've been moniroting these ETFs and will be offering a service in the future that shows how you can profit from trading these currencies, so stay tuned.
Bond Spread - Momentum is starting to slow here as the short term line is close to giving a sell signal. The intermediate term line is in Buy Mode, below zero and moving up towards the center line. Two things can develop from this set up. If bonds move sharply lower from here, they can turn the mid term line back lower. If bonds consolidate during the next short term sell signal, they'll be setting up another move higher (which is where I'm leaning).
And finally, we have the OIL Spread (which many have been asking me to add to my analysis). Oil recently gave a short term buy signal, while in an intermediate term buy. Technically prices are at a resistance level and as the chart I've provided shows resistance levels above the current level. So if Oil breaks out here, it should be the 'last move up' and I'd expect lower prices. Everyone seems to be calling for lower prices, and the markets like to make a sharp move against consensus before reversing.
So how can you use these indicators? I'd suggest maintaining positions in all 4 ETFs, the QQQQ, GLD, TLT, and USO to create a diverse uncorrelated portfolio. This will allow you to participate in some profits when certain markets are not moving. Since they're ETFs, you can invest more per position because your position risk is much lower and you can also use margin to increase your position size - a topic we'll get into in future articles.
How else can you use them? Well, I'll leave that up to you. I know many people subscribe to get these charts on a daily basis or to get our technical charts as well. We'll have an update in the near future that goes through our various technical indicators, how to read and utilize them in your trading.
I'd also like to point out that we offer the DSB at a $239 annual subscription at a roughly 20% discount to our monthly price. I suggest trying the service over a longer term period so you can understand how the barometer is designed to work in various market conditions.
I hope you've enjoyed this explanation, if you have any questions please do not hesitate to ask and we'll be sure to answer them in an upcoming article.
Enjoy the 4th - a full article will come out tomorrow morning.