The Short Trend Indicator plotted below has a range between plus and minus 100. When it reaches +70 or higher you buy, and you hold as long as it remains above -30. Then you sell until it climbs back above +70. If you want to play both sides of the market you sell short when it drops below -70 and hold the short position until it climbs back above +30 where you move to cash.

As you can see below there are occasional whipsaws (so what else is new?), but the indicator would have keep us long uninterruptedly since August 15 when the S&P 500 closed at 1285. The indicator got us out of the market on April 17 and kept us out all through the May madness, until August 15.

S&P 500 Short Trend Indicator Through Friday, January 26th

The Short Trend Indicator is designed like every other indicator, it must be used in concert with others -- not in a vacuum. At the very least, the size of our positions should be adjusted by the condition of the Summary Index, the Average Signature, the RSI and others.

This indicator is a proprietary modification of one invented by Richard Donchian, a 1928 graduate from Yale in economics. He was known as the father of trend following.

Donchian channels are calculated by plotting the highest high and the lowest low reached during a series of trading days -- usually twenty -- above and below the close of each day. A buy signal is given when the subject index or stock breaks above the upper channel of the preceding day, after having previously traded below the lower channel -- a sell signal is the reverse.

Donchian buy and sell signals often reverse quickly in volatile markets. My modification is an attempt to reduce the frequency of whipsaws. The reason I chose this indicator as our central market timing tool at this time, is that the market is experiencing its lowest volatility in a decade, and trend-following indicators perform at their best in such a situation.

I have added 20-day Donchian channels to our usual Short Trend Indicator chart for purposes of illustration. There is no neutral state using the Donchian system, it is either a buy or sell, you buy when the price moves above the previous day's upper channel and you sell when it drops below the previous day's lower channel.

S&P 500 Short Trend Indicator Through Friday, January 26th

Fred Goodman, CFP, is a fee-only Certified Financial Planner based in Los Angeles. You can send him your questions and comments via e-mail at Fred@MarketMonograph.com. E-mail sent to Fred may be edited for clarity and brevity and published on this web site, and may include your name unless you request anonymity or specify not for publication. The charts and commentary represent what Fred  thinks about the market and what he is thinking of doing for his own account and for accounts he manages at the time of writing. Fred, his clients, or his family may have positions or may make trades in securities mentioned in these commentaries.  There is no guarantee that you will profit from trading as discussed herein. You may lose money and Fred assumes no responsibility for what you do or do not do with this information. Copyright © 2006 Fred Goodman. All rights reserved.

For information purposes only, offered as a periodical of general circulation; not to be deemed to be recommendations for buying or selling specific securities or to constitute personalized investment advice. Derived from sources believed to be reliable, but no warranty is made as to accuracy.