Buying Momentum Divergence
This strategy requires a 6 period momentum indicator on a weekly chart.
I look for stocks making momentum divergence over a 3 month period and go long according to the rules of the strategy below.
Spotting momentum Divergence
I look for momentum divergence in a 3 month(13 week) period.
I classify momentum divergence as momentum making a higher low when price makes a lower low of the 3 month period. The momentum low has to have occurred at least two weeks before the price makes a new low.
You can look through all the charts yourself if you want to. I personally don't want to look trough 350 charts each week so I have written a stock screener using proRealTime to search through the stocks and give me a list of all the ones that are making momentum divergence.
Entry.
Once I have determined a stock is making momentum divergence I set a buy order to buy at the high of the current week. Don't forget if you are looking at the spread betting firms charts you need to add the spread to the price as their charts art typically plotted using the bid price.
Stop
I set my stop initially to below the low of the current week.
Length of trade
If after 10 weeks our trade has failed to do anything I exit the trade as it is going no where and not doing what I expected.
Trailing our stop
Although the Idea of this strategy is to try and gain a big win I trail my stop to lock in profits along the way. This is the area of the strategy that may need to be fine tuned over time.
I am currently letting the position to get to 2R (so 2* initial risk) once this has been achieved I move my stop to the low of the past two weeks.
This is a lot to take in and visualise so see below for a worked example.
Northgate
Momentum made a 3 month low on 15th December 2008, Price made a 3 month low on 23rd February 2009. Using my screener we probably would've placed this trade on order for a few weeks before it would've executed.
We would've first seen this a potential trade on 23rd December 2008. We would've placed an order to buy at the high of the week 161.1 + spread of 1.8 so 162.9 We would've set our stop below the low of the week 71.6 - spread( you don't have to remove the spread here but I think it's better to not set the stop at the low value as prices can touch the low, stop you out, only to bounce straight back up)
So set our stop at 69.8 giving a risk of 162.9-69.8 = 93.1 . This is currently too rich for my blood as I don't have sufficient funds but if you had say £10000 in a spread betting account you could make this trade as it's less than 1% of funds.
Buy | 162.9 |
Stop | 69.8 |
Risk | 93.1 |
Anyway this trade wouldn't have executed as the price failed to pass the high of the week.
The following week we would've amended our trade to:
Buy | 125.6 |
Stop | 69.8 |
Risk | 55.8 |
As it works out this is a better trade for us as our risk has almost been cut in half.
The following week our entry price is hit and we are in the trade.
We then wait until the trade moved 2R into profit before we can move our stop. This means waiting until price hits 125.6 + ( 2* 55.8) = 237.2
5 weeks into the trade we have our first opportunity to move our stop.
Price has hit a high of 270 on the week which is above the 237.2 we have been waiting for. We can now move or stop to the low of the previous two weeks. This is 141.2 which means we have locked in a small profit of 141.2 - 125.6 = 15.6
Stop | 141.2 |
P/L | 15.6 |
We keep trailing our stop over the coming weeks each time locking in more an more profit.
These new levels are
Price | P/L |
167.9 | 42.3 |
258.7 | 133.1 |
271.5 | 145.9 |
290 | 164.4 |
304.8 | 179.2 |
343.3 | 217.7 |
So we ended up making £217.7 profit for only £55.8 risk. That's 217.7/55.8 = 3.9014 a risk to reward ratio of 1:3.9. That's pretty good by anyones standards.
