Sunday, September 25, 2005

Market Wizards

Market Wizards by Jack Schwager is such a great book. I had a few quotes from that book on this blog a few weeks ago in an article on risk management, and I see that the Trenders blog has a much more comprehensive list of quotes from the interviewees in the book this weekend. Having just read the book myself, I found myself nodding and smiling as I read through the quotes. They are good ones.

I have an opinion on the segments at the beginnings and ends of the Market Wizards books where Jack Schwager talks about some of his own trades and his mixed success. He comes to some very good conclusions himself in the text, but I get the feeling that a mistake he is making is trying to ramp his account up too fast during and after winning streaks. From what I can tell, there are two ways of making money in the financial markets. You can make a lot of money fast, but the way you got it makes you incapable of keeping it. Or you can make money consistently, which is the only way to keep it. From what little Jack describes of his own trading, it doesn't sound like he is trying to make money consistently and that probably goes a long way towards explaining his difficulty in keeping his impressive winnings.

Watch list for week of 9-26-05


My thoughts on the nasdaq index are written on the attached chart. Although the number of new highs on the nasdaq (34) is outnumbered by new lows (44), there are a number of fairly decent chart setups this weekend. Many of them may break down though, so if the nasdaq sees some high volume selloffs next week I'm not going to be caught overexposed on the long side.

Here are the low-risk buy candidates identified by my market homework software this weekend:



A couple others worth watching but are in VERY young bases:



If the market does pick up some bullish steam at this juncture, I'm probably going to be like a kid in a candy store buying off of the lists here with the cash proceeds from short covering. Otherwise, there isn't much to do but sit tight. I should mention that I'm already carrying a position in DSTI.

Thursday, September 22, 2005

DSTI weekly chart case study


To understand why I'm so bullish in DSTI in particular right now, I have to show you its weekly chart. You should compare this weekly chart with the raw chart on stockcharts.com to see if you can see what I see without all my lines everywhere =)

The only thing making me sweat a little bit about DSTI right now is that there are more wicks on top of the candles on the daily chart than there have been ever in the past. Perhaps the underwriters are trying to make sure it doesn't get overheated right now. Or they could just be selling out.

In my opinion DSTI in 2005 is the closest chart to TASR in 2003 and TZOO in 2004. As long as both the energy market and DSTI remain in long-term uptrends I am comfortable holding a core position in the stock. I like trading around my core position though, making me a buyer when the sellers dry up and taking some profits when it gets overheated.

Wednesday, September 21, 2005

Some pretty decent setups tonight

I was suprised at the chart setups spit out by my software tonight:



In a more bullish market I would probably be taking positions in many of these stocks, but as it is I'll mostly just be watching them for signs of strength on the nasdaq. I've already got a large position in DSTI and I may do some buying in one or two others, but it depends on how badly the nasdaq is going down and whether I'm seeing other breakouts work out ok. Today I had a nice gain in GEPT, so the follow through tomorrow will tell me a little about how interested people are in chasing breakouts. I've been holding a position in GEPT since the beginning of September after I mentioned that my market homework software identified it as a low-risk buy candidate at that time.

ENTU chart setup


I mentioned ENTU this weekend as one of the highlights from my market homework software. This is one of the reasons why I continue to run the software even when the market is dead! Today ENTU had a reversal candle that was almost identical to the one XWG had back in July before running up nearly 100% in a few weeks.

To review, the way I like to trade chart setups like this is to try to get a small position when the volume is very light and I feel the stock is near support (the lower purple line on the given chart). Today's reversal candlestick reinforces a high probability bottom because it flushes out all the sell orders. I'll add to my position when the upper-channel line is crossed. The upper channel line is the downward sloping line across the top of several price highs (the upper line drawn in purple on the given chart).

It is important to remember that no chart is an island and must be considered within the context of the market direction in which it is trading. I'm bearish on the market so I'll be hedging any buying that I do in ENTU against a large short position in the QQQQ, which looks to be on the brink of disaster.

Monday, September 19, 2005

Trimming down ahead of fed meeting

I thought I'd be sweating my shorts after the big gains in the market on Friday, but instead it was many of my long positions that proved better to liquidate. Today (Monday) I sold SIRI and BCON in the morning, and STEM at the close. I took a small gain on SIRI and a small loss on BCON and STEM. I had a larger than normal position in SIRI and ended up liquidating the entire thing within the first 30 minutes today because it fell below that key support level of $7 and didn't look like it had a prayer of recovering it today. I quickly scaled out in the $6.90's, and SIRI closed at $6.70. When you can buy it back cheaper than what you sold it for, you are ahead of the game.

The fed will announce whether they are increasing the interest rates or not tomorrow, and is probably the main reason for the unpredictability in stocks' daily charts lately. Making and losing money in an unpredictable environment is pretty much the definition of gambling. Not that that is a bad thing in itself, but it is a loser's game over the longer timeframes throughout which I plan to grow my equity. I believe taking money out of the financial markets requires planning in terms of decades rather than moving from one trade to the next, thinking each is the most important trade in your financial career. My plan is to make damn sure I'll be in the game decades from now, and from that perspective the day to day wins and losses seem a lot less important because they are just small parts of a bigger picture.

So with a lot less exposure than last week, I fell pretty good coming into this fed meeting tomorrow, and I've got plenty of powder to put to work when the time is right. Once again, it is a waiting game, and realize it or not, that puts me in a position of control.

P.S. I was on the phone with Jarod today when he referred to the fed meeting tomorrow as "judgement day". I jokingly reminded him that he was the one going into this fed meeting net-long. He currently only has one ridiculously tiny long position left after closing out all his other positions in the middle of last week =)

Sunday, September 18, 2005

Watch list for 9-19-05

In this week's market review from Bill Cara he makes a compelling argument that the fed may not be raising interest rates at Tuesday's meeting. And I must say, nothing would suprise me in the equity markets next week. I almost closed out every single position I had last week after my equity closed at a new high for the first time in 2 months, and slipped right back into its range the next day. I would have been better off for it too. Almost every position I had moved against me on Friday, which was a freakishly huge volume up-day on the nasdaq. It wasn't a naz +40 up move like I would have expected on that kind of volume, but it should still be considered accumulation so I've got my finger on the "Cover" button for my QQQQ shorts and every other short position I've got that isn't showing a profit. So Friday I closed beneath the bottom of the range my equity has been in for 2 months...

The quality of the low-risk buy setups identified by my market homework software this weekend were notably poor. Here is a list of the best ones:



I should mention that I currently have a position in DSTI. Also worth a look, Frank over at the technicator blog identified a decent chart setup this weekend in IMX.

This low volatility, sideways market action is like the mesmerizing siren's call for my style of trading. So unless my current holdings make a nice recovery next week, I'm probably going to be lightening up and trading smaller until there is more direction to the market. As important as I feel it is to make money consistently, my over-riding objective is to not lose money so that I can capitalize on the best opportunities in the market when they come along. I haven't posted many charts on this blog recently because I really haven't seen anything worth jumping up and down about, which is a shame because I really like posting them here.

Tuesday, September 13, 2005

Easing back to net-short


On January 3rd, the first trading day of 2005, the nasdaq cracked at the same price level it has paused over the last two days, about 2,180.

During the last two weeks my overall exposure has changed from slightly net-short to slightly net-long, but I'm going to ease it back towards net-short starting tomorrow as long as the 2,180 level remains the ceiling. I can tell that I've got too much volatility on the long side because my account equity has been opening strong and closing poorly since this recent mini-rally began.

Sunday, September 11, 2005

Watch list for 9-12-05

Last week was another dull week in the markets. It is tough to get ahead in the recent environment and it usually doesn't pay to force it. Here's the results from my market homework software this weekend:



I've got long positions in DSTI and STEM. I just picked up the STEM position at the close on Friday and I'll add to it on a strong breakout. I first identified STEM as a low-risk buy candidate on my watch list two weeks ago, and I included it on this week's watch list because it is still in a low-risk price range from a technical analysis perspective.

And finally, a helpful quote for traders:

"Main thing in an emergency is to stay calm." -- Panthro, Thudercats Episode 2

Saturday, September 10, 2005

Risk management


  • "I would say that risk management is the most important thing to be well understood." -- Bruce Kovner, page 82, Market Wizards by Jack Schwager

  • Jack Schwager: "How much of a role does luck play in trading?"
    Richard Dennis: "In the long run, zero. Absolutely zero. I don't think anybody winds up making money in this business because they started out lucky."
    Jack Schwager: "But on individual trades, obviously, it makes a difference?
    Richard Dennis: "That is where the confusion lies. On any individual trade it is almost all luck. It is just a matter of statistics. If you take something that has a 53% chance of working each time, over the long run there is a 100% chance of it working. If I review the results of two different traders, looking at anything less than one year doesn't make any sense. It might be a couple of years before you can determine if one is better than the other."

    --Page 97, Market Wizards by Jack Schwager

  • "Don't focus on making money; focus on protecting what you have." -- Paul Tudor Jones, page 139, Market Wizards by Jack Schwager



A couple weeks ago I was reading the "New Era thinking" chapter in Robert J. Shiller's Irrational Exhuberance, the original edition that was published shortly before the nasdaq crash of 2000. Shiller found that media buzz about an emerging "New Era" historically happened before and during large stock market advances that ended with crashes. So naturally I bought a copy of Visions by Michio Kaku when I saw it in the bookstore. The significance of Visions was its publication date, 1997. Kaku wrote Visions as a guide to the cutting edge of science at the time, and as a roadmap of how we could expect our lives to be changed by emerging discoveries.

Kaku is a physicist himself. The book jumped out at me because I remembered his name from a mind-blowing article Kaku wrote and published on Ray Kurzweil's site that I had read several years ago. One of the most interesting passages I've seen so far in Visions was this one:

  • "If these difficulties in computer technology can be overcome, then the period 2020 to 2050 may mark the entrance into the marketplace of an entirely new kind of technology: true robot automatons that have common sense, can understand human language, can recognize and manipulate objects in their environment, and can learn from their mistakes." -- Michio Kaku, page 16, Visions


What I find to be so interesting about this statement is that there may not be sufficient demand for these automaton housekeepers. The fact is, it is so much easier to create software "risk managers" of the kind talked about in the above quotes from Market Wizards than it is to create robotic servants.

As computer hardware and software technology continues to advance, the financial market computer models and risk management computer software gets more sophisticated and more difficult for humans to outperform. The people maintaining and controlling the best of these software programs will control the world in a sense. The primary function of financial markets is to optimize resource allocation. These software programs are the ultimate resource allocators.

There will always be profit opportunities in the financial markets for humans, but let me put forth a scary scenario. Consider that software systems are responsible for more and more of the bidding and offering that goes on in markets, and at some point they might reach the point where they can have markets moving so erratically that traditional technical analysis loses all predictive value. Many readers familiar with the markets probably think it is absurd that this could happen, but let me introduce a science experiment called the Prisoners' Dilemma. In 1984 a tournament was held where anybody could write and enter a computer program to compete in games of iterated prisoners' dilemma. The winner of the tournament was a strategy called Tit-for-Tat. Tit-for-Tat was the dominant strategy for a long time, but more recently a program was written that could detect whether it was playing against a Tit-for-Tat program by analyzing its opponents' reactions to its moves. If it detected a Tit-for-Tat program, it would make moves that destroyed Tit-for-Tat's score, at a small loss for itself.

If you have sophisticated enough software controlling enough money in the markets, by collusion they could keep humans out. For example, if you don't flash the right series of bids and offers at the exactly correct time intervals, they could determine that your bid is a human bid. Or if your stop isn't rotating through the correct price series, then it must be a human stop, or foreign software and is now a target.

This is just another reason why money today is worth a lot more than most people fathom, because it may not be as easy to come by in the future. There are many patterns in the stock market today that provide profit opportunities and haven't been arbitraged out because it is too expensive to fade them. One makes more money by amplifying the pattern than disrupting it, but the risk vs. reward ratio for any given pattern is certainly subject to change over time. Higher failure rates tip the scales in favor of the very best risk managers, whether they be human or machine.

Thursday, September 08, 2005

In response to hurricane relief criticisms

This post is in response to hurricane relief donations criticisms: Roberto's criticism of the NYSE and Peter the speculator's criticism of oil and gas company contributions.

There are good reasons why the people who are giving the most have the least to give. It is tough to get ahead if you are bleeding out anytime somebody else could use some money. I can't say I blame Grasso, but it doesn't matter anyway. The public will have a shot at his money after he passes away and it is taken in estate taxes and piddled away by inheritees.

We all contribute to this disaster relief whether we want to or not with tax money and higher energy prices. I'm helping out by driving my car 5-20 mph slower than I used to, this gives a small relief to energy prices even if I can only convince a few other people to do it. Doing this has improved the gas mileage of my 3000GT VR-4 by 20%.

"Don't buy gas if you don't need it." -- President Bush

P.S. Liquid markets provide the most efficient resource distribution, think about it like an auction. Price controls create major shortages in markets and lead to rationing. You don't want people in dire need of a resource and the money to pay up for it to not have it available because "it got bid up too high". I can't think of a case where completely eliminating liquidity is a good idea.

P.S.S. I can tell that Peter likes it when liquidity disapears and he's on the right side of the squeeze, the url of his blog is http://www.limit-up.blogspot.com/ in reference to the futures markets price controls.

Tuesday, September 06, 2005

Watch list for 9-6-05

Here are charts of the best low-risk buy opportunities that were identified by my market homework software this weekend:



Probably my favorite chart setup on the list is GEPT. This is exactly how I like to see a big rally cool off. There are a lot of people who paid too much for shares in late July and early Auguest between $5.50 and $7. These holders are in a very tight spot right now, many are scared or bored and ready to sell. I like to take shares off of these peoples' hands when the volume really dries up during the sell-off, just like GEPT has done over the last month. Take SPIR for example, we saw almost the exact same setup near the 50-day moving average (red line) in early August, just before the stock gapped up into a 50% advance within a single day.

It will be interesting to see how the market closes this week. With September 11 occuring next Sunday, it will probably be the riskiest weekend to carry equity positions through, so I expect the market to close lower on Friday than it opens Tuesday morning. It isn't worth trying to make money from these sorts of expectations though, at least I've never had much success with them. Rather, this is my que to not jump into any marginal plays this week.

Saturday, September 03, 2005

A word on entering the financial markets

I received a kind email from a reader who has been studying the market for a long time and feels ready to put some money to work soon. I wanted to post my reply on the blog in case any readers want to add to what I had to say, or challenge any part of it.


  • Thanks for the email, and I'm glad you like the blog. I wonder if you've read "Reminiscences of a Stock Operator" ? This is the best book on the financial markets I've read and is key behind how I try to trade. It goes further than that though. I don't know what sort of trading or investing appeals to you, but I'm interested in the study of making 50%+ annual returns consistently. One of the most important things I've learned so far is that money is made in the markets by managing risk better than other people, no matter what tactics you are using. It is just as true for Warren Buffet, Jesse Livermore, George Soros, you and I.

    I would discourage you from getting into the markets in the first place because 9 out of 10 people come out behind in the long run, but you probably already know this. I don't know if you are trading yet or not, so let me tell you that it only gets easier over time if you pay attention. A beginning trader has to go up against the fact that he is under capitalized, lacking experience, unprepared for a relentless emotional rollercoaster, and beset on all fronts by rampant conflicts of interest. But after all of that, if your account survives that far, you will come to realize that the financial markets have to be played like a casino plays an edge: you win statistically over time. Your equity percentage trade size will probably go down and your winning consistency should probably go up. And eventually you will be rewarded by being around for the beginning of a new bull market and the experience and cash to really take a lot of money out of it.

    Unfortunately the market homework software I use was written by me so there's nowhere you could get it for the time being because it is not at a point where I can release it, it is only a prototype currently. But you should know that half of my trading efforts are focused on determining market direction and positioning my exposure accordingly. It is something you can do, and easy when you get the hang of it. The trick is to have bets both ways when tension builds in the market. Then as you drop your losers you can add to your winners. If you do this correctly you will make money every time the market has a movement longer than a week or two.

    If you want to talk about anything in particular, let me know. I love talking about this stuff with people who are interested. Regarding where I get a list of stocks to watch, they almost all come from watching the new 52-week highs list of nasdaq stocks. You can find this on stockcharts.com under the "Stock Scans" section. By the way, I went to Mizzou and currently live in St. Louis, so we are sort of neighbors. Pretty cool =)

    -Jon