TRADING TECHNIQUES
Powerful Or Picayune?
Premarket Prediction
by Victoria Wang
Can premarket activity be a powerful predictor as to how
underlying stocks will perform during regular market hours? Will this knowledge
be advantageous to traders?
Premarket activity
refers to stocks that undergo active trading before the US market opens
-- that is, before 9:30 ET. This activity may be caused by earning announcements
from either before the market opens or after yesterday's close, upgrading
or downgrading by analysts, or other news that may influence the stocks'
movement. After analyzing about a half-year's data, we are beginning to
uncover the connections between premarket activity and stock trends during
regular trading hours.
DATA COLLECTION
The first step in the analysis is data collection. The premarket data
was collected from the NASDAQ website from February 1, 2006, to July 31,
2006. We wrote a program that fetched the data from the website every morning
around 9:25 ET. This data includes the current price before the market
opens, yesterday's closing price, and the premarket trading volume. Using
this data, we were able to calculate the percentage change of the current
price relative to yesterday's close, referred to as percent change. We
will discuss the effects of these data on the underlying stocks' movements
during regular trading hours. Trading activity involves entering a position
at the open price and exiting the position at the close of the day; therefore,
this is a daytrading system. For short positions, we are limited to stocks
with a price above $6.
PRICE RANGE EFFECT
The effect of the price range on the average percentage return for long
positions is illustrated in Figure 1. In this figure, we set premarket
volumes to those above 10,000 and the percent change to those greater than
or equal to 20%. Gap up stocks with a higher price range -- that is, prices
equal to or above $50 -- tend to have a positive average percentage return
of 4.46%.
However, due to the small number of data applicable to this range, these
observations may not be statistically reliable. Stocks that range from
$10 to $25 and $25 to $50, on the other hand, perform poorly in long positions.
The average return for stocks between $10 and $25 is -2.74% with winning
odds of 22.2%, while stocks priced between $25 and $50 have an average
return of -4.65% with all trades being losses.
Based on this observation, it would be advisable to short gap-up stocks
priced in this range. For prices between $5 and $10, there is an average
return of 0.79%, with winning odds of 41.7%. Stocks priced less than $5,
or penny stocks, have more volatile trading patterns. A few have large
positive returns, but most of them lose money in long positions. Overall,
there is a 2.46% average return with 33.3% winning odds for this price
range.
FIGURE 1: EFFECT OF PRICE RANGE ON AVERAGE PERCENTAGE RETURN.
Blue bars indicate gap-up stocks in long positions. Maroon bars indicate
gap-down stocks in long positions. Premarket volume and percent change
are held constant at greater than or equal to 10K and greater than or equal
to 20%, respectively, with an exception for gap-down positions above $50,
which have volumes greater than or equal to 10k and percent changes greater
than or equal to 10%.
...Continued in the July issue of Technical Analysis of STOCKS
& COMMODITIES
