Stock Trading Philippines: The Outlier Framework for Stock Selection
Updated: Mar 30, 2018
With close to 300 stocks to consider in the stock market, finding the right stocks to focus on can be a big challenge. To address this common problem of stock trading in the Philippines, we’ve developed quant-models that help us find the stocks that will outperform the broad market at each stage of the cycle. In our experience, about 90% of investors fail in their first three years of investing because they do not know how to select stocks. Most focus on mastering technical analysis but do not have processes that will narrow down their choices. So they end up preparing a shopping list of 20–30 stocks and hope they can spot the relevant trades on the ticker daily.
I’m sure there are successful traders in the stock market who invest this way but the approach isn’t sustainable or replicable over time. For one, having a watch list of 20–30 names is just poor process. It means you don’t have a robust stock selection process. You’re probably visually choosing stocks based on chart patterns you see in your head but not really knowing when these trades become relevant. In all likelihood, traders who do it this way are the “all-in” types. Sometimes they really hit it big! But all it takes is one bad trade and they’re set-back for several months. Anyway, this post isn’t about “all-in” versus “diversified portfolios” so I’ll leave it at that.
At BOH Society, we’ve created a simple framework called Outliers. It’s a three-step framework that looks at multiple-factors — volume buzzes, dual momentum, and trend intensity — and evaluate these across multiple-durations.
The Outliers: Finding Relevant Trades
At its simplest and crudest form, traders can use a multiple duration scatterplot of daily returns. Day-traders can focus on 2 days versus 5 days scatter plot. If you’re a position trader, you’ll have to look at higher time frame scatter plots. What the framework forces you to do is ignore everything at the center of the scatter plot distribution and focus only on the OUTLIERS. In our framework, it doesn’t matter if you chase leaders or try to bottom pick laggards. You get to tailor fit your trading method with the names highlighted by the models.
This is the first step in our OUTLIER framework and all new members of BOH Society start off with this very basic tool. There are a lot of nuances to its application in stock trading or investing but the above description should already give you an idea of how to put trade ideas together. In practice, it’s not good enough to know which names are standing out over a particular time horizon. Otherwise, you’ll end up being a chart chaser trying to chase the rotation in this simple framework.
Instead, one thing we teach at BOH Society is that it’s never ever just one thing. What this means is that it’s not good enough that you capture one trait or characteristic. For example, in a multiple duration return model, you’re just chasing momentum. You should know that stock selection is a bit more nuanced than just chasing momentum, as you find out overtime if you insist on using such a crude model.
The Outliers: It’s Never About One Thing
The second step in the OUTLIER framework is running your basic watch list against the MOMENTUM EFFICIENCY FRONTIER. This model draws inspiration from Markowitz’s efficiency frontier since it factors in volatility into the equation. But instead of using fair market value for individual stocks to derive our expected returns, we use a proxy, proprietary measurement to capture and forecast trend.
It is often at this stage where members of BOH Society get their EUREKA moment. It’s almost like when Neo sees codes in The Matrix for the very first time. Stock trading in the Philippines suddenly stops being random and our members finally stop looking for jackpot trades. Constructing portfolios that fit their personal risk appetite finally start making sense!
You see, what the model allows our users to do is compare expected returns for different stocks against their volatility. As investors, we do not have control over or have perfect estimates of expected returns but we almost always have a good understanding of volatility. So stock selection becomes an exercise of comparing one stock’s volatility profile against the expected returns of others with the same volatility. And once our users understand they don’t have to take on excessive risk to reap outsized returns, they stop taking high risk trades!
The Outliers: Holy Grail
The third and final step in our OUTLIER framework is The BOH Curve. It is the cornerstone of our quant-based approach and is the model that will move the needle for your portfolio. It is the holy grail of models. What the model effectively says is that it’s not good enough for a stock to have high expected returns. For the trade to be relevant, the trend should be accelerating and differentiating itself from everyone else with equally high expected returns (model can also be applied for stocks with negative expected returns). I’ll let the visualization speak for itself for now.
At BOH Society, we use models to derive insights into the stock market. We’re able to focus on relevant trades only because we choose to focus on OUTLIERS. Now models are only useful if you can provide context, and we’re happy to say that our ability to provide context is what differentiates The BOH Way from everyone else.
Together with our in-house experts, we probably have more than 30 years of stock market experience between us. Nuff said.