One of the easiest ways to simplify your trading is through the use of mechanical systems and rules.

Having systems in place takes a lot of the pressure off your shoulders.

It gives you a framework allowing you to approach every trade in a consistent manner. 

Most importantly, it removes the guesswork from trading. Instead of trying to figure out what the market is going to do, you simply follow the rules of your system.

All the hard work goes into developing the system. Once the system is developed, it’s just a matter of implementing it over and over again.

Today, we’re going to take a look at one of my favorite systems.

This particular system is used to grade the overall market. This grade will tell you how bullish or bearish you should be.

We’re going to do this by implementing a simple scorecard system. It’s really easy… and I guarantee you can start doing this yourself by the time you’ve finished reading what I have to say.

The System

The scorecard can have a maximum rating of +3 and a minimum rating of -3.

A +3 rating is ultra-bullish. +2 would be strongly bullish. +1 means the market is mildly bullish.

A score of 0, of course, would mean we are neutral.

And on the other side of the spectrum, -3 means we are ultra-bearish. -2 would be strongly bearish and -1 means the market is mildly bearish.

All you need to start assigning a score to the market are the 20- and 50-period simple moving averages (SMA).

If the market is above both moving averages, it gets a maximum score of +2.

If we’re above the 20-SMA but below the 50-SMA, that’s a score of +1.

And if the slope of both moving averages is positive, we can add another +1 to the overall score.

In a bullish market if we’re trading above both moving averages, and the slope of the moving averages is pointing upwards, we have a total score of +3.

It works the exact same way in a bear market.

Being below both moving averages gives us a maximum score of -2. And if the slope of both moving averages is negative, we can add another -1 to the overall score for a total score of -3.

Here’s a chart of the SPX during a bear market.

Between April 21, 2022, and July 5, 2022, the SPX flashed a score of -3.

The market was below both moving averages and the slope of the moving averages was pointing down.

This is an example of when you should be ultra-bearish, and your trading portfolio should reflect just that.

Here’s a current chart of the SPX.

As you can see, the market is above both moving averages and the slope of the moving averages is positive.

This means we assign this market the maximum bullish score of +3.

What a +3 market means to you could be different from what it means to me.

This is the part where you have to take this system and filter it through your own investment objectives and risk tolerances.

For me, a +3 market means I want almost only long exposure. Downside positions are simply countertrend and unlikely to work out.

But let’s say the market breaks below one of the moving averages, shifting the score to a +1 or even 0.

In such situations, that’s when I’d personally look to hedge my trades more aggressively. That could mean buying some downside protection against my bullish exposure.

And if the market shifts bearish, that’s when I’d look to actively play the downside.

The bottom line is that having this scorecard system tells me what’s going on with the market right now.

This avoids having to guess and forecast what might happen in the future, allowing you to trade the market in front of you with confidence.

Happy trading,

Imre Gams