STP Algo Trader - The Method

Welcome to this issue of STP Algo Trader “The Method.”

Every Saturday, we will break down each of the inputs that go into our proprietary algorithmic trading system.

The goal is to show you how our system works and educate you on why and how these factors can be used to make you money.

Today, we are going to begin with the SECOND signal in our system. This is a mandatory point and a key screening tool for our ideas.

We begin by looking at THREE qualifying characteristics when we establish the universe of stocks on which we run our proprietary algorithmic trading system.

First, we look for a minimum market capitalization of $2 billion.

The goal is to have companies that are big enough to be well-established. While many speculative companies can achieve a $2 billion market capitalization, it does cut out many questionable companies—thousands of them.

Our system works best when we don’t have to worry about the company being a scam or a fraud.

We are reliant on using market and analyst data, and only larger companies have a robust enough data set to provide valuable inputs.

The $2 billion market capitalization also helps establish the trading liquidity.

While some companies of this size barely trade any shares, most will have at least decent liquidity.

We want to provide ACTIONABLE ideas that make getting in and out of the trade easy. Being right about the trade but unable to trade it means you are wrong.

When we initially began the current version of Signal Trader Pro, we had a higher market capitalization minimum of around $5 billion. We then started testing on lower market capitalizations and felt that the smaller number would still provide us with the right kind of trading ideas.

The second qualifying characteristic is we look for a minimum of six “sell-side” analysts to have coverage on the stock.

For those unfamiliar with Wall Street terminology, "sell-side" means that these analysts work for a brokerage or a bank and do active research on companies.

This research is then provided to clients – institutions and wealthy individuals – in exchange for them running their trading volume through that brokerage.

"Sell-side" is opposed to "buy-side" which are the research analysts that work for the institutions like mutual funds or hedge funds. Those analysts seldom publish their research.

We are looking for a minimum number of analysts because one of the keys to our proprietary system is looking at the company's operational data.

Specifically, we are looking at revenue, cash flow, and earnings. We begin by looking at year-over-year growth in these metrics, but most of our analysis is based on how the company performs relative to the analyst’s expectations. We will go through this in more detail in future issues of “The Method.”

The key, though, is we need to have enough analyst data to run our analysis.

Stocks with little analyst coverage may be interesting investments but do not lend themselves to our analysis.

We prefer to see as many analysts as possible covering the stock so we have a robust set of data to analyze. The more data, the better.

Having at least a half dozen active analysts, though, is more than enough to power our analysis.

The final qualifying characteristic is that we are only looking at stocks in the Russell 3000.

This is the broadest stock market index maintained by FTSE Russell – a subsidiary of the London Stock Exchange. It is a market capitalization-weighted index of 3000 stocks that is supposed to capture a broad spectrum of US companies.

It is supposed to represent more than 95%+ of the investable universe by market capitalization in the US equity markets.

It does not include any foreign securities or ADRs. We may look at these in the future, but we believe the current universe for the system is large enough.

There are also some requirements to be listed in the Russell 3000 in terms of capitalization, stock market listing, etc. This is another screen where we eliminate lower-quality companies.

Our most recent update of our investable universe found 1359 companies that fit our criteria.

Based on our experience, these are enough companies to provide us with robust trading opportunities over a year.

Our focus is on finding stocks where the underlying company is big enough and well established so that we both have enough data as well as eliminate any companies who may have other issues.

This allows us to focus on the data and identify the great trading opportunities.

Click here for more information and to sign up for the market’s best algorithmic trading platform, Signal Trader Pro.