## Price Action Lab Blog

The p-Indicator allows a quantitative approach to scanning stocks for short-term high probability setups. Here I provide an example of how this particular indicator can be used to scan the DOW-30 stocks on a daily basis.

The results of a p-indicator scan are not mere indications that some conditions are satisfied, like for example that the RSI(14) is greater than 75 and the stock is above its 200-day moving average. The results one gets from this advanced indicator are estimates of the probability of short-term directional moves for given risk/reward objectives. This is a significant departure away from the classical approach to scanning where notifications that some conditions are justified are obtained but the user knows neither their past frequency of occurrence, nor their win rate for specific risk/reward parameters.

The p-indicator is an integral part of Price Action Lab. In order to use the indicator to scan a universe of stocks, the following steps must be taken:

Step 1: Create a T/S file.  This file contains the profit target and stop-loss values to be applied to the calculations of the indicator.

Step 2: Create a p-Indicator workspace. On the workspace you specify the T/S file to use, the historical data file and the trade input parameters. Below is an example for scanning all DOW-30 stocks as of the close of February 23, 2012: In this case the data for the stocks were updated and saved in a directory called “Stocks”. A T/S file called “3” was selected. This T/S file includes just the pair (3,3) in it. That, in conjunction with the trade parameters “%” and “Open”, implies that the p-indicator values will be calculated for profit target and stop-loss both equal to 3% based on the open of the next day.

Step 3: Run the workspace and analyze the results. Below is the output of the scan for the particular settings in Step 2. The results are sorted for highest p-delta: Terminology: The probability of an up move and of a down move are the long success rate and the short success rate of the p-indicator, P-long and P-short, respectively, as shown on the screenshot above. P-long is a measure of the probability that a long position initiated at the next open will result in a profit for the corresponding profit target and stop-loss values (in this case 3% for both).  Similarly, P-Short is a measure of the probability that a short position initiated at the next open will result in a profit for the corresponding profit target and stop-loss values (in this case 3% for both).  A more useful measure is the difference between the long and short probabilities, shown as P-delta, which is a measure of the bias, or tendency, of the market to move towards the long or short direction (the results above are sorted by highest P-delta). The parameter S represents a significance measure of the calculated numbers with a zero value indicating no significance, values around 5 indicating moderate significance and values above 8 indicating high significance.

Interpreting the results

There are a few different ways of interpreting the p-indicator results. One could look at probabilities individual stock or look for patterns of increasing numbers of stocks with positive or negative probabilities. This indicator can also be used for pairs trading by considering stocks that satisfy this condition and buying those with high positive P-delta while selling those with low negative P-delta.

Please note that the p-indicator calculations change on a daily basis and as a result any signals derived from it. Thus, the calculations of the probabilities are valid until the close of the next day when the indicator is recalculated. The same also applies to all technical analysis indicators. Furthermore, probabilities are not related to events themselves but only to their frequency of appearance, in the sense of the low of large numbers. At least this is just one of the many interpretation of probability and one of practical use.

Like all indicators, the p-indicator also generates false signals and quite often it is very hard to interpret. Experience helps with the correct interpretation of the values and patterns of most technical analysis indicators, including the p-indicator.