Stock Market Forecast Update

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I have updated my Stock Market Forecast page with the latest systems I’m testing.  You can read the explanation there in detail.  The quick summary is that I’m doing two primary models (4-week and 13-week), both using a linear regression model (a statistical way of finding a straight-line relationship between a set of variables and a calculated outcome) that involves four different technical analysis data points.

I graph the stock market forecast for each model over the coming 4-week or 13-week period.

Lastly, I will issue two weighted combination forecasts each week in my update post, each of which makes only one “official” forecast for the record book.  One represents a weighted average between where the two models think the S&P 500 will close this upcoming week.  The weights are based on how sure each model is – that is, using the “standard error” for the regression analysis.  The other is a “Headline Adjusted” model, which tries to account for the fact that extreme and unforeseen events can throw off the models.  So, I remove data that seems affected by such effects and keep the more pure data.  But this model will only make a forecast one week in advance.

Performance of Last Week’s Forecast

(NOTE: The markets are experiencing tremendous upheaval from headlines out of Europe and possibilities for major interventions from central banks, which is extremely difficult to capture with 4-week or 13-week models.  An important caveat to the use of any model that forecasts out that far is that any game-changing event will cause significant deviations.)

Weekly Direction of the S&P 500

Correct:   4-week   /   13-week   /   Weight-Adjusted Combo

Incorrect:   Headline-Adjusted

 

Accuracy of the Weight-Adjusted Combination Models

Regular Weight-Adjusted Combination: 2.67 percent too pessimistic

Headline-Adjusted Combination: 4.73 percent too pessimistic

Notes: Based on the latest close, it looks like the resolution of the “fiscal cliff” issue may be affecting things positively with between a 1.5 to 3.1 percent positive effect (based on a calculation I do after running current week’s headline-adjusted forecasts).  If investors turn their attention to the next battle (debt ceiling), the effects of this sugar high wearing off could see a significant drop in the markets.

 

Accuracy of Individual Models

4-week Model:  4.02 percent too pessimistic

Correct Prediction of S&P 500 Direction thru Last Week’s Close:  1 out of 4 predictions

Notes: The four times it made a forecast, they were all within 0.38 points of each other, but of course that was about 4 percent too pessimistic compared to the actual close.  In other words, the forecast thought it had this nailed all the way.  But investors were too busy cheering the clarity brought about by the apparent resolution to the “fiscal cliff.”

 

13-week Model:  1.78 percent too pessimistic

Correct Prediction of S&P 500 Direction thru Last Week’s Close:  12 out of 13 predictions

Notes: The model was consistently about 1.5 percent too pessimistic.  It was clearly the best of all four models for this latest close.

 

Buy-Sell Simulation

(NOTE: I just changed the threshold for a “win” or “loss” to $50 instead of $25, because the latest round resulted in a $26 “loss” versus the S&P 500 even though the model correctly bought during an up week.  The difference was caused by the fact that I use the closing price 5 minutes before markets close to simulate a time when you could actually sell, and the market still gained enough in those last 5 minutes.  I don’t consider that a true “loss” for the system, and I want to avoid that in the future.)

The simulated weekly trade using the weighted average of the two primary models can be found on the “Buy-Sell Simulation” tab of the spreadsheet

Weekly Profit/Loss vs S&P 500 buy-and-hold:  Loss of $26

Cumulative Profit/Loss vs S&P 500 buy-and-hold:  Loss of $679 (initial $10,000 investment, excluding costs of trading)

Wins and Losses vs S&P 500 buy-and-hold (Win = $50 gain or more, Loss = $50 loss or worse): 46 pct

Notes: The model correctly bought this week as the markets moved up, with a slight difference due to selling 5 minutes before markets closed.  This leaves the system’s current streak at 1 win (any weeks close to a tie aren’t considered in streak).

 

Stock Market Forecast Summary for Upcoming Week

Here’s the breakdown:

Forecast Change in S&P 500 This Week (Jan 7, 2013 – Jan 11, 2013) 4-Week Model 13-Week Model Weighted Average
Standard down 3.90 pct down 1.70 pct down 2.57 pct
Headline Adjusted up 0.23 pct up 1.55 pct up 1.02 pct

The weighted average forecast for the two models says that on the close of January 11, 2013, the S&P 500 will be 1,428.79 – which translates to a 2.57 percent drop this week.  Adjusted for headlines, I would expect a level of 1,481.38 – which translates to a 1.02 percent rise this week.  Check out the Stock Market Forecast page for exact numbers and charts.

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EASY NOTE: I offer email newsletters documenting portfolio simulations that apply a concept with solid backtesting and intuitively sound principles.  Click here to learn more about the newsletters or sign up to receive them.  If they’re not outperforming the S&P 500 … they’re free!

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Evolution of the Forecast

Basic Concept: We’ve had several forecasts for next week’s close from the 13-week and 4-week models.  The evolution of the forecast could give us a sense for whether the forecasts are too high or too low.

4-week Model: The forecast has been fairly flat, so this forecast is probably where it would be if we ran another round.

13-week Model: The forecast has been fairly flat, so this forecast is probably where it would be if we ran another round.

Bottom Line of Forecast Evolution: The forecasts are probably about where they would be even if there were another round of forecasting.

You can see the “evolution” data on “Forecast Archive” section of the Stock Market Forecast page by clicking on the tabs at the bottom of the chart.

 

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