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TRADING SYSTEMS


A Reversed MACD Long Entry Signal For ORLY

03/12/09 12:12:39 PM
by Donald W. Pendergast, Jr.

One of the better-performing NASDAQ 100 stocks during the 2007-09 bear market, a specific mechanical trading system has fired a long entry signal on O'Reilly Automotive.

Security:   ORLY
Position:   Buy

O'Reilly Automotive (ORLY) has done comparatively well during this, the greatest bear market since the Great Depression. ORLY is only a few dollars shy of its all-time high, one that was set a few years back; this actually is understandable, since their business is supplying aftermarket auto parts, tools, and equipment through its extensive nationwide chain of retail stores. When times get tough, people are more willing to spend money to keep their existing cars and trucks in good repair than they are to go into debt on a new vehicle. They simply make money in good times and bad.

Those traders who wouldn't mind taking a shot on a long trade setup in ORLY are in luck -- the reversed moving average convergence/divergence (MACD) crossover trading strategy that I wrote about in the March 2009 issue of Technical Analysis of STOCKS & COMMODITIES has just fired a long entry signal for this high relative strength NASDAQ stock.

FIGURE 21: ORLY, DAILY. While mechanical system trading generally precludes the inclusion of extraneous technical data, the fact that a bullish breakaway gap preceded the new long entry signal does help inspire confidence in the system's signal output.
Graphic provided by: MetaStock.
 
Figure 1 is a daily graph of ORLY with the entry and exit signals for the reversed MACD crossover system plotted near the bottom of the chart. The blue pyramids are long entry signals and the red pyramids are long exit signals. Since this is a strictly mechanical system, I won't go into details regarding things like money flow, cycles, trends, or moving averages, but it's pretty hard to ignore the huge bullish breakaway gap on February 19, 2009.

In the three weeks since then, prices have consolidated, pulling back towards the top part of the gap. This is a normal, healthy technical pullback, one that frequently precedes a period of further gains. That a mechanical long entry signal has appeared in the wake of such an important technical event only adds an extra measure of confidence to the validity of the signal.

Of course, the idea of a mechanical system is to avoid having to make an emotionally charged decision, one based on chart criteria or other external market forces. Let's examine the past performance of the reversed MACD crossover trading system on ORLY to see if it merits consideration for a long entry with our trading capital right now. See Figure 2.

FIGURE 2: ORLY, REVERSED MACD CROSSOVER. The reversed MACD crossover system has been profitable in seven of the past 10-1/3 years, when trading ORLY long entry signals. Intital starting equity was $5,000 and a penny per share commission for entries/exits was factored in the results.
Graphic provided by: Compuvision's TradeSim Enterprise.
 
All in all, the system produced favorable results in this stock; I have made one minor alteration in the system code featured in the S&C article, that of adding a money flow filter and shortening the MACD signal line by a small amount. The results are only marginally better, and both versions produced profits when tested over the same time span.

In Figure 2 I've plotted the yearly profits for each ORLY long trade. It posted gains in seven years and losses in four years, with the winning years far outperforming the losses of the losing years. The starting capital was $5,000, commissions were a penny per share for entries/exits, and no margin was used. Note that the system produced a maximum of five consecutive winning trades and only two consecutive losing trades.

The system produced a 73% win ratio, boasting a healthy profit factor of 2.96. Maximum peak-to-valley dollar drawdown came in at $919.45. Just as in the S&C article, no stop-losses were used and all trades were long entry only. See Figure 3.

FIGURE 3: ORLY, REVERSED MACD CROSSOVER. A fairly smooth equity curve helps inspire confidence when trading a mechanical system like this; also note the complete absence of any meaningful drawdown during the most recent NASDAQ bear market period.
Graphic provided by: Compuvision's TradeSim Enterprise.
 
The net pretax profit (commissions included) was nearly $10,000 or approximately 7% per annum, compounded. In addition, the average profit per trade returned nearly $131. Now we'll glance at the equity curve to gain some more insight as to the tradability of this system on O'Reilly stock.

The system produced a reasonable smooth and stable equity curve; the most notable feature is the modest drawdown during the vicious 2000-02 NASDAQ bear market and the absence of drawdown during the even more deadly 2007-09 bear market. Given the performance of most US stocks lately, the combination of ORLY and the reversed MACD crossover system appears to be a winner.


Trade signals come and go, but the trader who takes time to backtest his/her system before putting money on the line has a distinct edge over those who choose a purely discretionary trading method.



Donald W. Pendergast, Jr.

Donald W. Pendergast is a financial markets consultant who offers specialized services to stock brokers and high net worth individuals who seek a better bottom line for their portfolios.

Title: Writer, market consultant
Company: Linear Trading Systems LLC
Jacksonville, FL 32217
Phone # for sales: 904-239-9564
E-mail address: lineartradingsys@gmail.com

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