Tuesday, January 31, 2006

Reviewing my 2005 trading mistakes: TRE




This chart shows what I consider to be one of my biggest mistakes in 2005. I didn't lose much money on the trade because my position was very small like how I always start, and I cut my loss around 10%, but the reason it sticks out so well in my mind is because I made two mistakes instead of one. If I hadn't made either one of these mistakes, I would have made a very large profit from this stock.

The first mistake was buying wrong. I usually don't buy at the top of a handle like I did here, I buy at the bottom of the handle. In this case, I bought TRE at $2.95 expecting a "gap up" breakout the following day. When it didn't happen the next morning, I should have exited the trade and waited on the sidelines because the range of the handle was already greater than my pre-defined "max pain" stop of 10%. So I didn't make a mistake in selling for a 10% loss when the stock travelled back down towards the bottom of its range, the mistake came from buying hope and paying too much for it.

The second mistake came later on the day that I sold. After my sell, the stock quickly reversed and headed higher, breaking out of the handle by the time the close came around. It wasn't a clean breakout though because it had already had a false breakout earlier so I didn't buy the position back. Over the next few days, my original thesis for the stock proved to be correct as TRE headed higher. My mistake now was not buying back the stock after it proved me correct. I've made that mistake many times, so I'm going to work hard on correcting this "scared" behavior.

Sunday, January 29, 2006

Watch list for week of 1-30-06

Here are the highlights from my market homework software:



I want to give a special thanks to Gorden Gekko at The Knight Trader for contributing to my survey of the most recent market rally. I try to keep the most relevant and tradable stocks on the radar of my market homework software, and Gekko's stock coverage when the market is rallying is perfect for it.

I've got a monster headache so I need to go to bed. To keep this short, instead of posting my usual Sunday night market commentary, check out a summary of the markets last week from my mentor over at the Market Stock Watch blog. I mentioned a few weeks ago that this is the best kind of market environment for our trading styles. Well, since January 1st 2006 my account is up 33%, mostly from building long positions in the stocks that I've posted about on this blog and riding the uptrend despite all the doom and gloom. January has been a great month for me, and I hope it comes across on the blog.

Thursday, January 26, 2006

Interesting quote over at Michael Covel's blog

Michael Covel had a great quote a few days ago in a blog post:

  • "I did find one thing that worked. In fact almost all technical analysis can be reduced to this one thing, though most people don't realize it: the distributions of returns are not normal; they are skewed and have "fat tails." In other words, markets do produce profitable trends."


This is a very powerful realization. In Jack Schwager's "Market Wizards" book series, quite a few of the trader's who were interviewed spoke about using option pricing models with fat tailed price distributions. In essence, these early options traders were betting on trends before the crowd knew how to price them in to the options.

However, I disagree with another assertion that was made in the same quotation:

  • "I was very, very skeptical that technical analysis had value. So I used the computers to check it out and what I learned was that there was, in fact, no useful reality there. Statistically and mathematically all these tools - stochastics, RSI chart patterns, Elliot Wave, and so on-just don't work. If you code any of these rigorously into a computer and test them they produce no statistical basis for making money; they're just wishful thinking."


I think "straw-man" statements like this one contain a lot of misdirection for traders and investors. Of course no single indicator is going to have any consistent predictive value, it is only by combining technical indicators that you can get a significant statistical edge. So maybe that guy did try every indicator. So what? Did he try combining them? There are many fundamental reasons why various indicators have value, consider this post I recently made regarding simple moving averages.

The market is a deterministic system. Price movement is simply caused by market and limit orders. There is a natural structure that emerges from those market and limit orders, and an understanding of that structure provides an edge to the aware trader. There are two ways to identify an edge. You can do it with an exhaustive "trial and error" search, or you can identify conditions that cause the edge to emerge and validate by testing.

Tuesday, January 24, 2006

Millions of Stelco shares traded after judge strikes shares worthless

I wanted to do what I can to bring attention to this Stelco issue, so please read this post at Bill Cara's blog about 40 million shares of Stelco traded today after the judge struck the shares worthless earlier this week. Cara explains this seemingly idiotic behavior as short covering, and a tactic to evade the unwanted scrutiny that would come with filing special tax paperwork. I'm no accountant, but it is easy to see that short positions held all the way down to zero are special circumstances that need to be reported differently.

So why wouldn't the shorts just hire accountants to take care of the extra paperwork and let the shares become worthless to realize the full potential of their short positions? One likely explanation is that many of the parties with large short positions are masking illegitimate manipulations of the company and its stock, explains Cara.

It will be interesting to see how this situation resolves. If there is no accountability and different laws for corporate hijackers, the markets become an even more unfriendly game than they already are. I'm not a sympathetic or charitable person, but I do believe that shareholders shouldn't have to fear the rug getting pulled out from under their feet by lawyers and charading courts.

I don't practice value investing for the most part, but cases like this Stelco one dramatically increase the risk premium that value investors must demand in order to put their capital at risk. The financial markets are an echosystem, so damage to this foundational investor group is damage done indirectly to me. I advise traders and investors to look more deeply into what has transpired in Canada, and more specifically, at Stelco, and discuss the implications openly. It is in our best interest.

Monday, January 23, 2006

Watch list for week of 1-23-06

Here are the highlights from my market homework software this weekend:



It is quite a large list tonite. I didn't want to trim it down any further because I use the list as an indicator of market health. How these stocks behave at technically important turning points tells me how I should position my equity. I'm primarily interested in seeing how aggressively traders and investors come in and support these stocks with buy orders.

Thursday, January 19, 2006

Interesting links and some market commentary

Some stuff I've been reading lately:


  • LINK
    Michael Taylor, a fellow systems trader shares some hard earned knowledge about creating a system's exit strategy. Whether you are a discretionary trader, a systems trader, or both, Michael's post is an informative read about an absolutely crucial subject.


  • LINK
    The new URL for my mentor's market blog. We have just entered into the most favorable kind of environment for both of our trading styles, and he has increased his posting frequency accordingly. One basic criteria we use for identifying a bull market to ride trends in is daily new 52 week highs consistently greater than 500.


  • LINK
    "Charter 2", free charting software from technicator.net. This is the sequel to Frank's "Taxi" software, and contains many great new features including several watch list capabilities.


  • LINK
    Jim, from my hometown Columbia, shares his watch list this week.


  • LINK
    Ugly posts about speculations that GOOGLE may play a role in the singularity. The singularity is an ongoing interest for me, and its pursuit is one of the motivations behind my trading campaigns. The singularity means many things to many people. For me, its realization is the ultimate milestone of progress.


  • LINK
    Brett Steenbarger's ongoing historical market research blog. There are tons of ideas for building a trading edge to be found on his blog.


  • LINK
    More good trend following philosophy at the Trenders blog.


  • LINK
    TraderMike's daily market recap. This is the link to today's.


  • LINK
    Daily dope and coverage of explosive stocks from The Knight Trader


  • LINK
    Blog by a trader who has a trading style shockingly similar to my own. The charts he posts are all near low-risk buy zones, which is where I prefer to begin my buying. It doesn't usually cost you very much to find out if you are right to be long or not when you start buying this way.


  • LINK
    Ron Sen's daily market analysis and helpful commentary.


  • LINK
    My girlfriend's latest adventures at Mizzou's vet school.



There is tons of other great stuff being published on the web every day by the maintainers of the blogs from my blog roll. I use Bloglines to easily monitor them for new content, and to maintain the blogroll you see on the right of this window. If you're not hip to bloglines or any of the other newsreaders yet, check it out.


And of course I'm still having a good laugh at all the non-trend-following traders who are starting to sound desperate under the mounting pressure of performance anxiety. Lots of people in cash positions are saying to themselves:


  • Surely we will pull back, won't we?

  • Maybe this is just exuberance?

  • Can't find anything to buy. (do they not visit this blog?)

  • Things are too high, maybe instead of buying we should start shorting...

  • Well it looked too high before, but now it's even higher! It can't come down, so we may as well buy!

  • No way! We bought the top! Now is when we should have shorted!

  • Repeat cycle



It is easy to get stuck in this destructive psychological pattern. I think trending environments are harder for most traders to deal with than choppy ones. Thought patterns like the one above only get worse as the market carries higher because, after missing the first boat, the perceived risk/reward of each successive boat is progressively worse. Flat markets give non-trend-followers plenty of opportunities to grab quick profits and take second-chance entries, but trending markets are a lot less forgiving in that regard. The beauty of it all is that money can be made in both environments, no one approach works all the time. Remember your edge, and stick to it!

Wednesday, January 18, 2006

REDF: watch list item gone sour



REDF was featured on my watch list for this week so I thought I'd use it as an example of something I would not buy after seeing what it did on Tuesday and Wednesday. If I did own it and hadn't sold yet, I would get out ASAP.

The problem with REDF right now is that, from a trader's perspective, it will be getting cheaper before it gets more expensive, meaning that shares sold now can probably be bought back for less in the near future. Aggressive traders don't bat an eye about taking trades like that. I should point out that REDF is already past the optimal sell point, which was on the first day that the price closed below the lower-channel line (drawn in purple) on large volume. This happened the day before today. Late in the day, if you're looking at intra-day charts, it becomes pretty obvious that a close above the line isn't going to happen and the stock should be sold.

So what do I look for from here? I will watch for the stock to carve an upper-channel line that slopes downward across price peaks. When I see an impending close above that line, then my outlook will become: the stock will get more expensive before it gets cheaper. That is a trader's buy signal.

I probably won't trade this stock because there are too many other interesting fish in the sea, but it makes a nice example.

Tuesday, January 17, 2006

Watch list for week of 1-17-06

Another good list from my market homework software this week. It makes me think that there is still fuel to propel the indices higher, but remember that these stocks are lagging the market in the January rally:



A couple of stocks that came up in my market homework software this weekend look similar to the way TASR did when I posted about it back in late December. These stocks may be putting in bottoms:

Saturday, January 14, 2006

Less Talked About Properties Of Simple Moving Averages

Institutions who are buying a stock don't put their entire position on in one day. They buy over time, therefore their cost basis isn't a quoted price, it is the average cost of all their buys. While any given institution won't buy the same ammount every day, I think an assumption we can make is that in aggregate all the institutional buying is at prices close to the average. From this assumption it follows that the institutions who have been buying a stock for the last 50 days will in aggregate have a cost basis close to the 50 day simple moving average.

An important implication of this conclusion is that we've identified a reason why moving averages will often act as support for a rising stock. If an institution has been buying a rising stock for 50 days and has a cost basis near in price to the 50 day simple moving average, buying at any price under the 50 day simple moving average will lower the firm's cost basis. Buyer firms will compete with each other for shares below their current cost basis, often rapidly driving prices higher.

Another factor to consider is that firms who have been purchasing a rising stock for less than 50 days will most likely have a higher cost basis and are likely settle for higher prices that still reduce their own cost basis, thus providing additional buying competition. The reason newer buyers probably have a higher cost basis is that the shorter the moving average interval, the higher it will typically be for a rising stock.

There are obviously many other forces at work on the price. Chief among these in my opinion is whether or not the price will get cheaper before it gets more expensive from a trader's perspective on various timeframes, but that is a subject for another post.

Sunday, January 08, 2006

Watch list for week of 1-9-06

I was suprised that my market homework software identified so many basing stocks this weekend because the market moved up so much last week. This leads me to two mutually exclusive conclusions: these laggards will break out and carry the market even higher as buyers chase this market up, OR the market isn't as strong as I believe and these laggards will lead a market decline. Either way, if a stock hasn't broken out yet, it probably won't until earnings or some other news event. With that in mind, here are the highlights from my market homework software this weekend:

Friday, January 06, 2006

ROFL

LOL at all the traders trickling back in from their expensive vacations. My account is up 17% this week. Thanks so much!

Thursday, January 05, 2006

Audacity

About 3 or 4 years ago, I played basketball pickup games on a regular basis at the mizzou rec center with several friends. One day I will never forget, I was shooting horse with Will and John when all the courts were full at that time. We were finishing it up, and many people were waiting for a court to open up when I recognized a person from the night life named Terry. I knew the guy was an ass and I didn't want to speak with him, but it was too late, he and his friend were already walking over to our court. They stopped on the sidelines where we had set down our stuff to play, and Terry came out onto the court. We said our hello's and Terry jumped up and grabbed the rim of the basketball hoop. He looked over at my friend Will, who was the tallest out of us, and asked if he could do that. Terry jumped up and did it again a few more times to illustrate, and we all stared up at him while he interrupted our game. Will tried it once and couldn't get to the rim, then we started shooting the ball again. Terry exchanged glances with his friend and they walked off.

About ten minutes later, we grabbed our stuff and got ready to leave when John noticed his wallet was missing. I think he had something less than $100 of cash in there and some credit cards. I don't know if they were trying to get my wallet or not, but I got lucky because I didn't bring mine. John called and cancelled the credit cards immediately, but there was nothing to do about the lost cash. I never saw Terry again, and years later I'm contemplating the significance of that event in my life. I got a first-hand lesson that people are audacious enough to take from you right under your nose.

The reason this story is in my mind is that over the past couple of weeks I learned something so radical about trading markets that my mind is blown. I feel like I did on that basketball court at mizzou because people are clearly using strategies based around the techique I have just conceived, but I have never read anything that describes it in detail anywhere. Could it be so simple and obvious that I'm an idiot for taking so long to recognize it? I don't think so. It seems more likely that techniques like this one are kept hush-hush by those who discover and use them, like some sort of class warfare among market participants.


Tuesday, January 03, 2006

Watch list for week of 1-3-06

Lots of big name stocks made appearances this weekend on my market homework software. Here are the highlights, my watch list for this week:



I am very skeptical about the quality of many of these "pullback" chart setups. I get the feeling that many of them will get cheaper before they get more expensive. We'll know more at the end of this week, but if the nasdaq composite isn't higher, I wouldn't expect many of these stocks to be either.