Indicator of the Week: Which Buy Signals Work Best?

There are a lot of technical indicators out there, but which one works best for picking stocks?

Senior Quantitative Analyst
Mar 2, 2016 at 7:30 AM
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Have you ever considered the different technical indicators -- Moving Average Convergence/Divergence (MACD), Relative Strength Index (RSI), Bollinger Bands, etc. -- and wondered which ones work the best? I'll try to answer that this week by looking at how these indicators have performed over the past few years for stocks that trade in the S&P 500 Index (SPX). I have done studies in the past on technical indicators, but over the past several months, the technicals have changed a lot. It might be a good time to see which signals have most recently been outperforming. Also, I show a list of stocks that have recently signaled for the best-performing indicators.

The Indicators I Evaluate: Below are some of the indicators that I looked at. Different traders use these indicators differently and/or in combination with other indicators. Perhaps that is why no one else tries to quantify their performance. I am taking a very basic approach to what I call a "buy" signal.

  • RSI: The RSI is an oscillator that ranges from zero to 100. A low number reading suggests a stock is oversold and ready to bounce. A typical buy level for this indicator is 30. Because stocks can stay oversold for an extended period of time, the buy signal is defined as when the RSI goes from below 30 to above 30. In other words, it was oversold and is now heading upward.
  • MACD: The MACD is calculated using the difference in two different moving averages for a stock. A moving average of that difference is then used and called the signal line. A common buy signal is generated when the MACD crosses above that signal line.
  • Golden Cross: A golden cross is when a shorter term moving average crosses above a longer term moving average. In the analysis below, I used a 50-day and 200-day moving average.
  • Moving Average Crossover: This is simply looking at the stock price crossing above a certain moving average. I compared returns after the price crossed above the 50- and 200-day moving average.
  • Bollinger Bands: These use a moving average and then bands are placed two standard deviations above and below the trendline. When the stock price touches the lower band it is often considered oversold and a bounce in the stock price is expected.
  • Moving Average Pullbacks: For a stock on the rise, some traders might wait for a pullback to enter the position. One popular way to define a pullback (which is then a buy signal) is when the stock falls to within a range of a rising moving average. I consider pullbacks to the 50-day and 200-day moving average.

Quantified Data Since 2012: Going back to 2012, and looking at the stocks currently in the S&P 500, I determined when buy signals occurred (as defined above) and then found the stock's return over the next month (21 trading days, to be specific). The table below summarizes the returns for each signal.

Stocks pulling back to their 200-day moving average showed the best short-term returns, averaging a gain of 1.95%. Also, 63.5% of the returns were positive. The next-best technical signals were simple 50-day moving average crossovers. Bollinger Bands and pullbacks to the 50-day moving average showed average returns above 1%. The worst technical indicator in the list below were Golden Crosses. That indicator showed the worst average return and lowest percent positive of all the indicators.


Returns by Year: I mentioned earlier how these technical indicators fall in and out of favor. Below is a table similar to the one above, but it only has data for signals over the past 12 months. This shows which indicators have been performing the best and worst in the most recent market environment. The only signal that has showed a positive return over the next month and positive returns at least half the time is a crossover of the 50-day moving average. The next-best signals were Bollinger Bands and pullbacks to the 200-day moving average. Again, Golden Crosses were the worst-performing indicator as far as this study goes.


Recent Individual Signals: The analysis above shows the 50-day moving average crossover has been the best technical indicator recently and it's the only one from the list above showing gains after a signal. There have been quite a few signals recently due to the behavior of the general market, and a lot of the signals are occurring on stocks that have had a pretty poor performance over the past year. Below is a list of stocks that have signaled since last week and are also positive over the past year.



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