...Ch 5 continues
A PFP
signal is an indication to buy or sell a stock. Every signal
is a collection of some conditions. When all, or majority, of
conditions are fulfilled for a signal, we will say we have a
buy or sell signal in that stock. I have given unique names
to signals and we will learn about them in detail in the following
chapters.
Let us
now look at various components of a signal. Every signal in
this book will have typically following components:
1.
Type- Buy Versus Sell:
A stock can be traded in two different ways- you can buy
a stock or you sell it. Hence every signal in this
book will be discussed in these two opposite market conditions-
one that generates a BUY signal, and its counterpart that generates
a SELL signal. The BUY version of a signal is used to capture
profitable opportunities by taking long position (buying the
stock). This will be labeled with suffix (BUY) because
it gives a signal to buy the stock. Then we will discuss the
same signal in the reverse market conditions to identify ‘Sell’
signals. They will be suffixed with (SELL). (BUY) signals
can be used to close/cover existing short positions and/or
to initiate fresh long positions. Similarly, (SELL) signals
should be used for closing existing long positions and/or to
initiate fresh short positions. As an example, U TURN is one
of our signals. It will have two versions: U TURN (BUY)
to give us buy signals and U TURN (SELL) to give us sell
signals.
2.
A set of tests/conditions: A signal
can have from two to up to eight tests (conditions). When all
or most of the important tests of a given signal are fulfilled
(are true) for a given stock, we can trade as per that signal
by buying or selling that stock. An example of a condition or
a test is- Today’s Open price is lower than Previous
Day’s High Price. Another example is- Today’s Low price is the
lowest price over last three to five days.
3.
Action: Every signal has one of
the two specific implied actions- BUY or SELL. However, when
there is an existing short position in a stock, then a BUY signal
can be used to cover that short position. Similarly, when there
is a SELL signal, it can be used to close an existing long position.
4.
Stop-loss: This is another
very important component of every Profit From Prices signal-
the stop-loss. This is like an expiry date printed on most of
the perishable items we buy in grocery stores. As time decays
most of the food items, it also decays a signal. However unlike
expiration on a specific date for a food item, a signal expires
at a specific price level. This is called stop-loss about which
we have already seen in the previous chapter. Our signal few
days back might be a powerful one, but subsequent developments
may have adversely affected the stock price. If there is some
news or some people are suddenly dumping the stock, we have
to incorporate it into our trading. Because our signal told
us to buy a few days or hours ago, we should not blindly stick
to our position. So when the stock price crosses the stop-loss
level, we take it as a failure of our signal. Every signal we
will discuss will have a stop-loss component.