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How to Create a Dynamic Trading System

How to Create a Dynamic Trading System
April 04
20:26 2012

Every stock market trader has unique needs that need to be met. Because of this, using a cookie cutter trading system made by someone else will often need to be modified to your individual needs. In which ways can you tailor a system? How could you even develop your own trading system?

Buying on Momentum

All traders want to make money. Some will buy with the current trend and some will buy against the current trend with the assumption that prices are soon to reverse. Which trader are you? Do you watch a rising stock and wait for the right opportunity to short sell? Or do you wait for a price break out and buy with the trend?

Both of these trading styles can be enhanced with momentum strategies. Momentum refers to the force or strength of a market movement. It will often encompass both price and volume. How can momentum help those who bet for and against the trend?


The Stochastics indicator is typically used to suggest overbought and oversold signals. Using the momentum indicator this way can be dangerous. The assumption is that the stock prices are like lapping waves going up and down. But if the stock puts the ‘pedal to the metal’ and the price moves for a sustained period of time, adverse consequences can be severe. Relative overbought and oversold signals work poorly with trending stocks.

Instead try this approach: buy when Stochastics turn up past 20, and short sell when prices fall down past the 80. When Stochastics fall below the 20 mark this creates an oversold position. Many will buy early but this could be like trying to catch a falling knife. Allow the stock price to bottom out and rise up past the 20 for a safer contrarian signal. Similarly, when the Stochastics rises above the 80 this is relatively overbought. Still, a stock might stay pegged above this level for weeks to months. An early short seller would be positively wiped out with margin calls. Why not wait for the momentum signal to drop past the 80 to give an early bearish signal?

What about the customization for each trader? The Stochastics indicator can be used in virtually any time frame. Some common short-term signals are 12 to 14 periods. These can be increased up to 40 or more for very long-term investors using daily or even weekly charts. This takes experimentation on your part. Put your former trading indicators(the ones in the system you currently use) on a chart. Then add Slow Stochastics. Start with a very low setting and gradually increase it until the buy and sell signals mesh with your other trading indicators.

What about traders that like to go with the trend? The same method can be used by using only very short term Stochastic periods. For instance, a stock rises but then goes through a minor consolidation period of just a few days. The price drop should force the 12 period Stochastics signals down far enough that a buy signal is formed with succeeding the price jump. You are trading with the trend and buying on the little dips.

Volume Indicators

Volume is a powerful confirmation of a price trend. When prices rise on anemic volume the trend is suspect. Strong volume is one way to confirm a trend. However, using volume as an analysis tool can also be confusing and complex. There is a simple method to use volume as a signal that most traders do not use.

The secret is to use On Balance Volume or Accumulation / Distribution with a moving average. Most will merely look at the rising or falling line of net volume to see if it is in agreement with the trend. It usually is. How can profitable signals be generated off the vague rising and falling of net volume? It is almost impossible without a signal line.

Start with a 10 day moving average on the OBV indicator. Make sure your chart provider allows for this as many do not. When the thick black line rises up past the moving average a bullish signal is formed. When the thick black OBV (or Accum/Dist) line drops past the moving average this is a bearish signal. 10 days is likely too short of a time frame for average traders. But start low and increase the time frame until the signals are timed fairly close to your current trading system.

Incorporating Indicators into a System

Basically, do not be afraid to try new techniques. You already have a trading system. By attempting to incorporate one more indicator as an additional filter is not likely to cause irreparable damage. You are merely making your system more strict which means less trades. The goal is to start weeding out the weaker trades while retaining the strong ones. There is no perfect method for hitting every trade perfectly, but by being flexible and using various periods on a variety of indicators you are likely to improve the success rate of your trading systems.


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