The Best Technical Indicator to Make the Trend Your Friend
Find market leading momentum stocks with the MoSTAR technical indicator
When markets are trending higher, you want to buy the best companies leading the strongest market sectors higher.
Fundamentals are important, but focusing on traditional valuation metrics like price-to-earnings (P/E) ratios won’t help you buy market leaders.
No value investor would have ever dreamed of buying Palantir (PLTR) when it had a P/E ratio of 190 at the start of this year. That crazy valuation topped most of the frothiest stocks at the peak of the dot-com bubble in 2000.
Yet, shares of PLTR are up over 325% since January and it now sports a P/E ratio north of 375. It’s called multiples expansion and it tends to happen to the leading stocks during a bull market.
Palantir is an amazing company that has undoubtedly emerged as a leader in data analytics and decision-making platforms. There are strong fundamental reasons why this stock has led the markets higher.
But if you use traditional valuation metrics to time your investments, then you’re never going to buy a stock like PLTR. Technical analysis is a better tool for buying market leaders.
That’s why I developed my own proprietary technical indicator called the Momentum Stock Technical Analysis Ranking (MoSTAR).
The MoSTAR indicator is a powerful tool that provides a simple composite score between 0-100 based on a weighted-average of eight different technical indicators used to gauge momentum in a stock.
Every stock is assigned a score that ranks it relative to the peer group for each of these eight technical indicators.
MoSTAR measures key signals, such as:
A volume thrust that shows growing interest in a rising stock
Consistent positive returns over multiple time periods
Inflection points of moving averages to spot trending stocks
Relative strength indicating outperformance of peers
Stocks breaking out to new highs or through key resistance levels
This fusion of indicators helps flag market leading stocks. MoSTAR can be used to find the best momentum stocks within any major index, but I prefer to use it to find the leaders in market segments with strong fundamental tailwinds, such as AI stocks.
If you want to earn above-average returns, you need to have an edge.
MoSTAR gives me an edge to discover the best momentum trades in AI stocks, which I will cover in The Profit Nomad PRO newsletter.
I tested several different iterations of MoSTAR and ran many different back tests to optimize this indicator.
(Sidenote: I was able to do this incredibly fast and efficiently thanks to AI! I have zero coding background, but its remarkable what I’ve been able to accomplish with ChatGPT so far. I’ve used ChatGPT to write python code to pull financial data, run studies and create entirely new tools like MoSTAR. I’ve replaced and automated a lot of the tasks I used to do with a $20k+ annual subscription for a financial data terminal with a $20 per month subscription to ChatGPT. It’s easier to use and more powerful. This is just one example of the disruptive power of AI.)
What I found is that AI stocks with a MoSTAR above 70 consistently outperform their peers. I don’t want to get too granular, but here are some results from a few back tests to show you how robust of a tool this can be.
Back Test #1
In one particularly strong back test from December 2022, AI stocks with a MoSTAR above 70 had an average return of 136.3% over an 18-month period compared to 49.8% for the rest of the stock group. That’s an 86.5% higher return on average!
It’s also more than triple the 42.2% return of the S&P 500 during the same period.
27 of the 247 stocks screened on 12/30/22 had a MoSTAR above 70
Only 2 of these stocks had a negative return after 18-months (down 11.8% and 10.1%)
The average return for the other 25 stocks was 148.1% after 18-months
Obviously, I chose to highlight one of the best back test results, but even it wasn’t perfect.
For instance, during the first 12-months of this study the 25 lowest scoring stocks (MoSTAR < 30) had a higher average return than the 27 stocks with a MoSTAR score above 70. However, the lower MoSTAR stocks were much more volatile.
Also, remember that 2023 was an overall strong year for stocks with a 24% return for the S&P 500. MoSTAR isn’t going to pick all the winners. It’s designed to find the market leading momentum stocks, which it clearly did based on the 18-month results above.
Back Test #2
The back test results from June 2023 were more balanced, but still demonstrated a strong relative performance. The average 12-month return for AI stocks with a MoSTAR above 70 was 34.5% compared to 16.9% for the rest of the group and a 22.7% gain for the S&P 500.
34 of the 248 stocks screened on 6/30/2023 had a MoSTAR above 70
Of which, 21 stocks were up after 12-months with an average return of 77.7%
The other 13 stocks that were down after 12-months had an average loss of -35.2%
The indicator locked in on some fantastic 12-month returns, such as: VRT 248%, SMCI 229% and NVDA 191%. But it also flagged some big losers: SDGR -60%, FSLY -54% and YEXT -53%.
Dealing with this dispersion and volatility is the key to making MoSTAR a useful tool.
How to Use MoSTAR
MoSTAR is a screening tool that flags market leading stocks. It tells me what charts I should look at and helps me build a short list of stocks to monitor for good trade setups.
MoSTAR is a powerful tool to have in the toolbox, but it isn’t perfect – no technical indicator is. It picks a lot of winners but also some losers. It’s impossible to know which is which until after the fact.
The goal of a successful momentum trading strategy is to make more money from the winners than we lose from the losers. This is where risk-management comes in.
Every momentum trade that is recommended in The Profit Nomad PRO has a preset stop-loss order and a predefined price target. This takes our emotions out of the equation.
At a minimum, we’ll want to see a potential return that is three times higher than our risk. So, if we set a stop-loss 10% below our entry price, then a reasonable price target should be good for at least a 30% return.
That gives us a risk/reward ratio of 3:1. In other words, if we’re going to risk losing $100, then we want to make at least $300 from the trade.
The beauty of this system is we only need to be right 50% of the time to make a healthy profit. If we’re only right 25% of the time, then we still breakeven. Of course, we’ll always strive for the best win rate.
And remember, 3:1 is the minimum threshold. Our downside will be capped with stop-loss orders, but when we use MoSTAR to find the best momentum stocks in sectors with strong tailwinds, the upside potential can be huge.
Let’s walk through an example with Palantir to see how.
The chart below shows the historical MoSTAR score (orange) overlaid with Palantir’s stock price (green) going back to January 2021. The black line is drawn at our target MoSTAR score of 70.
There were a few brief periods when PLTR’s MoSTAR topped 70 in 2021. Its score was above 70 for most of October, which would have put it on my radar.
Looking back at the chart of PLTR from that period, I like to think I wouldn’t have been enticed into a trade. But that’s with the bias of my perfect 20/20 hindsight. If I had put a trade on then, it certainly would’ve triggered a stop-loss.
The next time PLTR’s MoSTAR score broke convincingly through 70 was at the end of May 2023 (green arrow in chart below). Any stock that sustains a MoSTAR above 70 for weeks will make it to my watchlist.
By June 22, the MoSTAR score hit 91. This also happened to be the day the stock pulled back to the 20-day exponential moving average (green line) and the relative strength index (RSI in top of chart) pulled back from extremely overbought to the centerline.
The 20-day EMA is an aggressive entry point to use in isolation. But combined with the RSI pull back, the surge in volume during the preceding rally and of course the high MoSTAR, it’s a good setup for a momentum trade.
So, for this hypothetical trade I’ll use the closing price of $14.05 on June 22, 2023 (yellow circle) and set a stop-loss 10% below at $12.65 (bright red line).
The minimum price target for this trade would be $18.27 using the 3:1 risk/reward ratio. It only took PLTR a month to hit this price target (blue arrow), but that’s not the takeaway from this example.
Obviously, I cherry-picked one of the top performing stocks and selected a convenient entry point. That said, PLTR’s MoSTAR stayed above 70 through the end of 2023, so I really could’ve selected any entry point in the second half of the year. The results would be more or less the same.
Here’s what I really want you to take away from the Palantir example:
MoSTAR won’t pick bottoms. PLTR was trading near $6 per share in December 2022. The stock rallied more than 100% before MoSTAR flagged it as a momentum stock. It’s hard to buy a stock after a huge run up, especially when it happens fast. We’re programmed to wait for big pullbacks that don’t usually happen with market leaders. MoSTAR helps us find that stocks are most likely to keep going.
Longer-term is better for momentum trades. The PLTR example was good for a quick win, but a 3:1 risk/reward ratio would’ve taken profits way too soon. The reason market leaders don’t get big pullbacks is because the smart money is using the dips to accumulate more shares.
If there are strong fundamental reasons to own a stock, as is this case with PLTR, and it’s getting the buy signal from MoSTAR, then we’ll aim for higher returns.
PLTR is up over 350% since June 22, 2023. I wish I could be bold enough to call for a 35:1 risk/reward ratio, but that’s not going to happen. The point is that there’s a lot more juice to squeeze from a momentum trade with a stock backed by strong fundamentals.
Our momentum trades will typically have an expected timeframe of 6-18 months. That’s the best way to make the trend our friend. In other words, this isn’t a day trading strategy.
Setting stop-losses is more of an art than science. The best place to put a stop-loss is at a key support area. There are different ways to determine support, such as a previous point of resistance, a long-term moving average line or a gap higher.
However, the real money heavy hitters know this too. And they have a knack for manipulating the market to scare out the weak hands to build a better position before the next big move happens. If you want to understand how markets really work, do yourself a favor and watch this clip of Jim Cramer from 2006.
That’s why I try to put my stop-loss orders just below the “obvious” spot. This provides a little leeway to confirm the trend reversal before being stopped out.
There’s not always an obvious support area either, as was the case for the PLTR example. The stock only went public in September 2020, so there wasn’t much price history. And there wasn’t a clear support area from the data we did have.
I used a 10% stop-loss level in this example because it’s the minimum amount I would consider for a momentum trade. The maximum stop-loss I would consider is 20%. That would mean I see potential for at least a 60% return since 3:1 is my minimum risk/reward ratio.
MoSTAR is a new technical indicator that I developed to improve my momentum trading strategy. I’ll use it to screen it for the best trading opportunities with my custom AI indices and other important market trends that I spot in The Profit Nomad PRO.
MoSTAR gives me a hot list of stocks to monitor, which I combine with my 17-years of trading and investing experience to spot momentum trades with a high probability of success.
The back test results are impressive, but now it’s time to put MoSTAR to the test with real money. If you want to follow along and receive actionable recommendations, consider subscribing to The Profit Nomad PRO.
To profitable journeys ahead!
Jake Weber
The Profit Nomad
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