What’s Your Stock Type?

• Posted by Derek
• on February 9th, 2011

I’ve been trading forever, and do pay attention to a stock’s personality but often lazily categorize it as large/mid/small or fast/moderate/slow.  Digesting some wisdom from Brian Shannon and Vic Scherer inspired me to add a little science to get my expectations closer to the reality of each stock selected.  If you trade only a small basket of stocks and know them cold, it doesn’t matter…you know them well.  If like me you scan thousands to find a few setups, this exercise may help.

Volume is an indication of a difference of opinion, right?  If no volume is traded, it indicates that fewer people are compelled to act on the current price.  Heavy volume, on the other hand, means decisions are being made on all sides to buy and sell and short and cover…and the shareholder base is turning over more quickly.  In comparing my trades to these rankings, I see a direct correlation between higher share turnover and better trading results.  Here is a sampling from the top and bottom of the “Turnover” filter:

Now, from the bottom of the turnover filter:

So how would I suggest using this data?  It depends on your trading personality.  If you prefer a quick answer to your decisions, it makes a lot more sense to trade in high turnover issues.  Most of us use standard filters like a minimum average daily volume…I use minimum average $$ volume instead($20 million) by multiplying avg daily volume by the price.  Also, volume compared to its recent average is used as a sign of new interest.

But what about screening our list for turnover?  Already, I can see the benefit of this filter, as it will help me objectively label the stocks I’m considering. Instead of being stuck in an issue that takes its time getting to its objective, I’d rather minimize the period of anxiety by focusing on high velocity stocks.  Whether it’s CANSLIM winners, high volume reversals, or new group moves, labeling stocks in this way can at least help us develop realistic time expectations.  We don’t have to ignore low turnover stocks, we just have to recognize that they will take longer to complete the pattern we see taking shape.  I see a ton of trades I took last year that worked out but not before I declared them a waste of time.  Guess what, the share turnover was lower on those issues and truly knowing that would have kept me away or at least forced me to adjust my expectations.

If you’re bothering to read this, you likely agree with me that stocks offer periods of opportunity when traveling from one phase of efficient pricing to another.  If that’s the case, then high turnover is a mathematical necessity in screening for “inefficient” stocks.  I can’t believe it took an innocent project 5 years into my quant path to make this more concrete, but the exercise was a real eye-opener and gives me a robust non-price tool for screening.  I welcome your contributions as I know I’m lucky enough to have some smart folks reading my ramblings.

The information in this blog post represents my own opinions and does not contain a recommendation for any particular security or investment. I or my affiliates may hold positions or other interests in securities mentioned in the Blog, please see my Disclaimer page for my full disclaimer.

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