The P-Dow indicator has successfully predicted the sign of stock market returns in the past 5 weeks. A blog reader asked me about the procedure I use to generate the indicator values. This is briefly presented below with some comments.
Below is the procedure I follow, including data updating, creating a workspace in Price Action Lab and generation of results. The examples are for weekly data but the same procedure is also used with daily data to get results for daily P-Dow.
Step 1: Update (or generate) weekly data of Dow-30 stocks
I use a program called YLoader to download free weekly data from Yahoo! Finance. There are other programs available for this job and also different data sources but I use the particular program because it has some nice scripting capability I use for automation purposes.
I download weekly data starting on 01/2000 because of a significant change in market dynamics around then. See this article for more details. Using data before 01/2000 distorts the results.
Step 2: Create (or open) a p-indicator workspace in Price Action Lab:
The settings used are shown on the above screenshot of the actual workspace used.
Step 3: Click Run to get the results:
TS is the profit-target and stop-loss file, P-long and P-short are the long and short probabilities for a position in the corresponding ticker, P-delta is the difference (P-long – P-short), a measure of the directional bias and S is the significance of the result (for weekly data 0 means low or no significance.) In the results, the Last Date of weekly data is the first date of the week.
The results show the p-indicator values for each stock. Stocks with positive P-delta value have long directional bias and those with negative have short directional bias. When there are more stocks with negative bias than with positive, then this is an indication that the market will fall on the week. As the number of stocks with negative P-delta gets above 10, the probability of a down week increases significantly.
The results for this week, calculated as of the close of last week, had 16 stocks with negative directional bias, indicating a high probability for a down market
Choice of profit target and stop-loss
I use 5% for the profit-target and stop-loss in the calculations because that is close to one standard deviation of weekly returns for most Dow-30 stocks. Below is an example for MSFT:
It may be seen on the bottom left of the above chart that the standard deviation of weekly returns is 4.09%.
There is really nothing more into it as far as the setup. Price Action Lab does the hard work for you.
Charting and backtesting program: Amibroker
Detailed technical and quantitative analysis of Dow-30 stocks and popular ETFs can be found in our Weekly Premium Report.