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Screening for Actionable Investment Ideas - 46919 views
BALTIMORE (Stockpickr) -- Regardless of your strategy, the ability to generate investment ideas is a skill that’s always in demand. Fund managers, market strategists and professional traders live or die by their ability to take advantage of attractive trading opportunities on a consistent basis. And being a retail investor isn’t much different.
To see consistent growth in your portfolio, you’ve got to have an effective way to screen for trades.
Simply put, a stock screener is a program that allows an investor to search for stocks based on his or her given criteria. If you’re looking for stocks that pay dividends, for instance, all you need to do is input that requirement in the screener, and you’ll get a list of dividend payers. Because they let you distill a regulated list of names based on your investment criteria, screeners are one of the most effective (and popular) ways of finding solid investment ideas.
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Of course, there are some extra screening speed bumps out there for technical traders. As a fundamental investor, screening for stocks is relatively straightforward. All you need to do is specify the fundamental data that you value in your investment strategy; shaking out a list of stocks with P/E ratios less than 10 and dividend yields greater than 3% is simply a matter of typing those criteria into the computer.
But how do you screen for breakout opportunities or stocks in an uptrend?
Today, we’ll answer those questions by taking a look at some strategies and resources for screening based on technicals.
What to Look for in a Screener
There are scores of different screening offerings out there, from robust professional software platforms that cost a fortune to free online screening tools. Unless you’re using some other functionality of a pricey research platform, I’d suggest sticking to a free option. Generally speaking, There are three things you’ll want to have in any good technical screening software: good data, formula inputs, and a nearby charting package.
Good data means up-to-date inputs coming into the screener -- after all, out-of-date data means you’re screening for irrelevant trades. Having formula inputs gives you greater control over your screening criteria. While it’s not a complete necessity for screening newbies, being able to set criteria using a formula is essential for more serious traders. Finally, it’s absolutely to have a nearby charting package to analyze any stocks that pop up during your research.
Most screening Web sites today offer a number of technical indicators that can be used as screening criteria. That means that if you’re already familiar with a screening tool for fundamental investing, chances are you’ll be able to use it for technical trading ideas as well.
(Check out the resources at the end of this article for a handful of solid screening sites)
Screening for Trends
Even if the concept of a “trend” is easy to describe to a new trader, it’s significantly tougher to describe to a computer. That doesn’t mean that you need to be a quant to program a screen for trending stocks -- in fact, some of the most readily available technical tools provide a shortcut to trend seeking.
One of the most simple ways to find stocks that are trending higher or lower is to search for stocks that are making new 52-week highs or lows. While a somewhat crude way to search for stocks trending higher, stocks reaching new 52-week extremes often do so because they’re in the process of moving in a well-defined technical range. Additionally, screening for new 52-week extremes is a good way to identify momentum and breakout trades pushing past a key support or resistance level.
A better way to look for trends is by using moving averages. Remember, moving averages are a tool that smoothes a stock’s price action over a given time period; by looking at where share prices are now compared to their moving averages, you can get a clue about whether a stock is trending or not. Stocks in an uptrend will be higher than their moving averages, whereas stocks below their moving averages are moving lower -- how strong of an up or downtrend depends on the lengths of moving averages you opt to use.
Slightly more sophisticated is the use of trend indicators such as the average directional index, which returns a number based on the strength of a trend. While not all screeners will offer such nuanced indicators, they’re easily replicated by inputting the formula.
Screening for Trading Signals
Another popular technical criteria to screen for is trading signals. Trading signals won’t be appealing to all traders -- particularly those who place a high emphasis on “gut” feelings. That said, for systems traders or those who favor a particular signal-generating indicator, signal screening can be very effective.
MACD provides a good example of an indicator that’s suited to signal screening. Traditionally, this momentum indicator generates explicit “buy” and “sell” signals based on a crossover of the signal line or the centerline. Both of those situations can easily be entered into a screener to find stocks that could be solid MACD trades.
One of the biggest benefits of signal screening is that because your screening criteria are quantitative in nature, they can easily be back-tested and evaluated for effectiveness.
Screening for Patterns
The most challenging criteria to screen for are technical patterns. That’s because the human brain is an exceptional pattern identifier -- for years, our abilities to identify a visual pattern have far surpassed that of computers. More recently, though, significant strides have been made toward screening for formations in stock charts.
Professionals have long used expensive, proprietary versions of these programs, but now they’re much more readily available for retail investors. One of the best examples comes from FinViz.com, a site whose screener is capable of identifying commonly used technical patterns.
A word of warning: I’m of the school that it’s not the pattern that matters; rather, it's the underlying levels of price activity that are crucial in trading any technical setup. Patterns are just an easy way to spot them. As a result, traders who get too caught up in picking out patterns will likely see a lot of false positives by relying on trading setups they find in any form of pattern recognition software.
It’s true -- stock screening isn’t just for fundamental investors. Instead, new advances in technical screening software are making it possible for technicians to use powerful screening engines to search out attractive trading opportunities, build watch lists and vet ideas. Next time, we’ll add to your technical repertoire with another primer that will bring you closer to implementing technical analysis for your portfolio.
In the mean time, do you have a burning technical analysis question? Get it answered by heading to Stockpickr Answers.
FinViz: A visual screening and pattern recognition tool for technical traders.
Portfolio123: Formula-based screening tool with a free level of membership.
AmiBroker : An inexpensive software-based screening and charting platform for more advanced users.
Jonas Elmerraji, based out of Baltimore, is the editor and portfolio manager of the Rhino Stock Report, a free investment advisory that returned 15% in 2008. He is a contributor to numerous financial outlets, including Forbes and Investopedia, and has been featured in Investor's Business Daily, in Consumer's Digest and on MSNBC.com.