The Kirk Report Interview Part 9

The Kirk Report

Q&A With Sylvain Vervoort

Thursday, December 17, 2009 at 8:16 AM

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Interviewed by Charles E. Kirk from "The Kirk Report"

Kirk:  I have been using stochastics/rsi (various time frames) in conjunction with modified ATR trailing stops. In essence, I try to buy pullback setups in a stock that holds above its ATR and which is oversold providing for a good risk/reward setup. If the stock moves lower and breaks the ATR, I’m out. Your thoughts on this basic hybrid approach?
Vervoort:  I will use the following to give you my thoughts about this:

In an upward move the main pullbacks will be Elliott correction waves 2 and 4. In general wave 2 will not retrace the stochastics/RSI to the oversold area. You can see this at (1). But if you were looking to enter at the start of wave 3, the most interesting thing here is that the price pulled back to the 50-day simple moving average and started to turn up from that same level while you can see turning points in other indicators. Wave 4 here is a flat correction with a first pullback at (2) to the trailing ATR stop at the beginning of May. Also here you can see the support of the 200-day simple moving average in action. The question is, should you buy here? I would not. The indicators have clearly not finished their downward move. There is no sign of an ABC Elliott correction which I would expect here. After a 200% upward move I expect a longer consolidation period.

The pullback (3) at the beginning of July looks much more interesting. Here I would buy. Price is falling back and turning on a previous (green) support line. The price finishes an Elliott flat ABC correction. All indicators are turning up from the oversold area and most of them with positive divergences. Price is also turning at the lower side of a rectangular price pattern, most probably to become a continuation pattern. And, as I have mentioned a few times, I would close the trade based on technical analysis and only keep the trailing stop as a last warning signal to close the trade.

Kirk:  Great! After introducing the ATR stop to many people here at The Kirk Report, your thoughts on how this indicator is useful amidst a trading strategy and in combination with other analyses is helpful. We appreciate it.
Now, let’s move on to another topic I know is important to you: backtesting! Verifying your approach based on historical analysis certainly appears to be a significant part of your research and your trading edge. How do you backtest indicators and strategies you develop?
Vervoort:  If some idea comes up, I will always try to write a formula for it to be able to do some automatic testing with the system tester in MetaStock. As much as possible I will use the same stocks and periods and, of course, the same testing conditions. That way I can compare results of other ideas to find out if this one is better or worse. Sometimes it will be very difficult to write code for the idea. Then I will go manually through a number of charts to verify if it is worth pursuing the idea further.

Kirk:  If possible, can you provide an example of a simple backtest and the steps you took to verify the profitability of a specific strategy?
Vervoort:  In my book there is a section about finding fast reliable moving average crossovers. Here I am using the cross-over between a zero-lagging TEMA average on the typical price with the zero-lagging TEMA average on the average heikin ashi closing price. It is probably the only averages cross-over system that I know that remains profitable in the long run.

First you create the buy and sell conditions in the MetaStock system tester.
Buy condition:
avg:= 65;
EMA1:= Tema((H+L+C)/3,avg);
EMA2:= Tema(EMA1,avg);
Difference:= EMA1 – EMA2;
ZlCl:= EMA1 + Difference;
haOpen:=(Ref((O+H+L+C)/4,-1) + PREV)/2;
haC:=((O+H+L+C)/4+haOpen+Max((O+H+L+C)/4,Max(H,haOpen))+Min((O+H+L+C)/4,Min(L,haOpen)))/4;
EMA1:= Tema(haC,avg);
EMA2:= Tema(EMA1,avg);
Difference:= EMA1 – EMA2;
ZlHa:= EMA1 + Difference;
Cross(ZlCl,ZlHa)

Sell condition:
Completely the same except that the for the last statement the crossing would be the other way around with: Cross(ZlHa,ZlCl).

Then I select, in my case, 25 volatile stocks within the time period 01/16/2003 till 11/09/2007. Because of the longer run in period for the TEMA average, first buy signals will only appear from mid 2004. So we are looking at about 3 years of trading.
The 25 selected stocks used are: AIRM, AKAM, AMD, ANF, ATI, AYE, BGC, BRCM, CRDN, CVO, EBAY, FTO, ILMN, INTC, MED, MIND, NCR, NVDA, SNDK, SPNC, TRE, TWTC, VPHM, WFR, X.
Finally you have to set the test conditions. Here they are:
$1,000 capital per stock with no profit or loss sharing between the stocks. 0.1% Broker entry cost and 0.1% exit cost. Only long positions are traded at the closing price on days when we have a buy or sell signal.

This gives the following result for this crossover pair:
With a $25,000 starting capital ($1,000 per stock) using the stocks and rules mentioned before, I get a profit of $36,994 or a +148% profit with an average of 29 trades per stock in the period 01/16/2003 till 11/09/2007.

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