Tuesday, March 30, 2010

A Sensible Decision

Reader Nitin Writes that he has followed my advice and taken up a job. He has an educational loan to replay, so he wishes to know if he can trade on the side with an automated trading strategy. Should he start with moving averages?

My Notes: Nitin, your comments have made my day. I am glad that you have taken a sensible decision. You should stay in touch with trading. Automatic trading systems is an easy way to remain in the field, and, hopefully, make money.

My suggestions are:

1. Use End of Day data as the basis of your trading decisions. This way, you will be free to concentrate on your job during the day. In the evening, you can update your data, check up your systems and plan your trades (If any) for the next day.

2. Trading with automated systems is a good idea, since it keeps you disciplined while making your decision making process easier.

3. There are three basic methods for trading - Volatility, Trend and Support-Resistance. A moving average system tracks the trend. It will make money in trending markets while losing in range bound markets. Support-Resistance systems buy on dips and sell on rallies. They get killed in trending markets. So, you have to decide for yourself - what kind of trading would you like? If you are comfortable with a few large profits and many small losses, then trend trading is for you. Experiment with exponentail, weighted and Zero lag averages. Use the dirction of the average as your signal. When the average is moving up - buy. When moving down - Sell. Keep a fairly large lookback, like 34 or 40 or even 55. This will enable you to catch most trends.

4. Have the 'Campaign Trading' approach. Trade in two units. The first unit should follow the moving average signal. The second unit should be used for quick trades in the direction of the trend. For example, in an uptrend, if prices pullback for three days, then buy the second unit, expecting a rally. Exit this unit in 3 or 5 days. This way, you can find opportunities to add value to your MA system.

One you start, then a lot of ideas to fine tune the system, will come to you.

have Fun!

Friday, March 26, 2010

Replies to reader comments March 26

Thanks to reader rajamani for asking a facility of google search in this blog. You can now search the blog using google. The widget is on the right sidebar. (scroll down a bit). Google is awesome. Just type 'Breakout' or 'Stop Loss' and see how google spews out the relevant posts.


Jazz asks:


"how to trail my stop loss. i've bought apollo tyres at 58 on a breakout. Even 30 dma is at 62 which is still 20% below cmp. Have not found any reversal signals on it. how do you exit a profitable position plz guide !!!!"
My Notes: I have a blog post which discusses stop losses, Here.  Apart from suggestions in the post, you can also keep a stop below the last day's low. This is also a tight stop.


kk asks:


A CHART MAKING HIGHER TOPS AND HIGHER BOTTOMS IS A SIGN OF BULLISHNESS. NOW THE PROBLEM IS HOW ONE CAN MATERIALISE ON THIS BULLISHNESS OR HOW DO WE KNOW THAT IT IS FINALLY BREAKING OUT. THINKING OTHER WAY, A RISING WEDGE IS ALSO A HIGHER TOP HIGHER BOTTOM FORMATION, BUT IT IS A BEARISH SIGN .


My Notes: Good question. This is a chicken and egg story. After a breakout, the rally may fail, OR, we wait for confirmation and the rally runs up, leaving us aside. So, there is no way of getting 'confirmation'. The buying point is the price at which the higher highs, higher lows pattern is confirmed. This is always the point of highest risk. To avoid this risk, traders can buy on pullbacks, but there is no way to know for sure if this is a pullback or reversal. I recently wrote a post on breakouts and there was a lot of reader comments, so use the google search written above to check it out.

Is the higher highs pattern a rising wedge or is it the real thing? For me, a rising wedge comes in a downtrend. The downtrend should have started and be visible. The wedge should be narrowing down with both lines meeting at the apex. You must also be aware of the controlling trend.

Reader devesh dikshit says some stocks like Rel Capital and Suzlon have underperformed the Nifty. They are much lower than their 2007 bull market highs while the Nifty has rallied a lot. Will they catch up, he asks.

My Notes: Well, each bull market has its favorites, so these stocks are out of favor. Also remember that Rel Cap had rallied to bubble levels, which are unlikely to be touched soon. So, the answer is: If we see the current up move as part of a secular bull market, then these stocks will rise but probably not to their 2007 bubbles.

Tuesday, March 23, 2010

Monthly ATA Meeting on March 27

The monthly meeting of the Association of Technical Analysts, will be held on March 27 in Delhi. Four different speakers will share their knowledge and experience of trading with technicals.

You can view details of the meeting, Here

Please register well in advance.

Outstation members will have access to the slides as well as video snippets.

If you are not a member of the ATA, consider joining it. This is a non-profit organization, for the promotion of technical analysis in India.

Monday, March 22, 2010

It is choppy

The Nifty has been choppy since the past three days. After a big 600 point up move, such choppiness was only to be expected. There is no purpose in trading the Nifty as of now. This is not such a catastrophe, since there will be many other opportunities.

Mid Caps: Vertigo

Many mid cap stocks have patterns that suggest big moves may be coming (on the upside). But, when I look at their weekly charts for the last one year, I have a sense of vertigo, where stocks have moved up many times. Apollo Tyres, the current favorite has gone up from 12 to 74.  Most mid caps are doing this. What will happen when a correction starts? Worrying.

However, so far the market is cheerful, these patterns should be taken for trading. Just follow your stop losses.

Sunday, March 21, 2010

Explaining a Mechanical System

Nirav asks:
Quote
Earlier in this blog I asked you about mechanical systems, and you said that mechanical systems work in this markets. But right now i am reading a named The Intelligent Investor- Benjamin Graham. And in that it is written that All mechanical formulas for earning higher stock performance are “a kind of self-destructive process—akin to the law of diminishing returns.” So, how will you justify this. Please reply.
UnQuote

My Notes:

A mechanical system is a set of rules that can be backtested. For example: A four week breakout rule is: Buy when th Nifty closes at the highest of the last four weeks close. Exit the long position when the Nifty closes below the last four weeks lowest close. This rule is then tested over the past 8 years. It makes money. Then, it is taken as a mechanical system, because the results could be proved over past data.

This is not so bad, is it?

What is the alternative?

Hunch? Mr X says "I feel abc is going to go up. You should buy it". Now, there is no way of knowing if such calls will make money consistently. One call may be a multibagger - the reason could be luck. But unless the methodology is not systematic and tested, there is no way of saying that trading calls coming from Mr X will finally make money.

Chart Patterns? Much better than Hunch. These patterns could and are converted into mechanical systems. Rules are well defined, and, a lot of patterns can be tested with such rules. When you trade patterns based on systematic rules you are really a mechanical trader. That sounds fine, doesnt it?

What can go wrong in mechnical systems? When rules are created, based on wrong principles. But this applies to all methods of analysis - fundamental, technical, .... . So, the problem may lie in execution, but not in the basic principles.

Now I will ask a question.

If you do not know that your trading ideas have performed profitably in the past, can you trust the ideas with your money?  It is possible that you can rely on third party research if you trust them, but there must be some basis. Reader feedback is requested.

Saturday, March 20, 2010

Bank Nifty Trade - My Notes

Thank you, readers for your response to the Bank Nifty trading problem. The problem and your comments are available here : https://sudarshanonline.com/2010/03/reader-suggestions-wanted.html


Broadly, the responses on Thursday evening and Friday afternoon were :


1. Exit immediately, you are on the wrong side of the trade, or,
2. Assume that the current price is your short selling price. Now, put a stop loss and see what happens.


On Saturday evening, some of the responses have come in which suggest:
Keep your short position and you will make money.


Maybe the 'keep your short position' is hindsight, after the RBI raised the repo rates.


My Approach:


When I find that I am on the wrong side of a trade, the best way is to exit the position immediately. Some of suggestions have explained this, and, this is what I do.


Saket has offered another option, which says:


"well the trader shorted the bank nifty at 8500 on 26 /2 the bank nifty brokeout and had a buy signal that was were the trader should have got out.




The trader has already carried a position wth a huge loss which is not prudent but lookin at the trade i would not suggest the trader now to book the loss as the bank nifty has rallied and reached resistance levels and the markets have also rallied to the highs n 5250-5300 are resistance zones so the trader can probably hve a stoploss of 9350 on closing basis"
 
This is also another way of approaching the problem. For professional tarders, this may be a better method, but for newcomers, this method offers hope while the requierment is of discplined action.
 
Finally, trading is not a rigorous methodology. There are many approaches to the same problem, all of them correct. The reader contribution has enriched this blog, and, I hope added value to all readers. Thanks.

Thursday, March 18, 2010

Reader Suggestions Wanted

tushki asks:

"sir pls suggest me levels for bank nifty...i had short sell it at 8500"

My Notes: I am giving below the chart for Bank Nifty Near Month futures. I request readers to give their suggestions to tushki. You should write your suggestions as comments to this post. Please keep your advise focussed and actionable. I will be grateful for all responses.

Also: I will be in Ahmedabad on 19th + 20th March for the CNBC Investor Camp. Readers are welcome to meet me.

Tuesday, March 16, 2010

The Nifty gets a Breakout

Trading ranges are meant to be broken, one side or the other. In a trending market, a range should , normally be broken in the direction of the trend.

The Nifty moved in a narrow range, roughly between 5100 and 5150, for well over six days. I say, over six days, since today morning it was doing the same thing.

By afternoon, the market decided it wanted to go up. The range was broken, and Nifty futures rallied from 5130 to 5215 before closing at 5210. Good enough!

Now, points of breakout are points of highest risk. (This one is my own, comes from trading thousands of breakouts!). If the trade is to fail, the trader will end up having bought / sold at the worst possible trade location. Each trader can have his own rules for trading breakouts. So far, he is consistent, each set of rules would lead to the goal - successful trading.

Sunday, March 14, 2010

Replies to comments March 14

Earlier in the day, I posted an unedited version of my video containing comments for Monday trading, on YouTube. Here is the link to the post: https://sudarshanonline.com/2010/03/just-for-fun.html


aansh asks:
I would like to know your advice on use of moving average. Which moving average should i use simple or exponential ??

My Notes: Usually, the exponential average is a better choice. The simple average should be used when you are following a setup where the author has specifically asked for the use of the simple average. I think that the weighted average is probably superior to these two.


On my post : "When the market is slow and dull", Saurabh asks four questions, linked and relevant.


--During the course of the day, which indicator has proved to be the best leading indicator of impending fall in volatility ?

My Notes: Traders should identify falling volatility on end of day charts. A period of low volatility , will, by definition result in low volatility intraday. Use Average true range and Historical Volatility to do so.

--Apart from the gut feel, How can one anticipate that the market is going sideways and it is time to come up with an alternate strategy ?

My Notes: Apart from looking at indicators mentioned above, a range bound market results when charts start showing consolidation patterns : rectangles and, less frequently - triangles. After two or more Big range days, the markets will usually go into many days of range bound movement. After a sustained uptrend or downtrend, look for a period of consolidation / distribution. One way is to reduce position size after a large trend following profit.

--All the trend following traders, should't they just keep out of the market when it is sideways , rather than changing the strategy and use a strategy that is the absolute opposite of what our mind gets trained to use ?

My Notes: Mostly, yes. But, in reality, there is no prior announcement of an impending sideways market. So, trend traders get whipsawed for a few trades, decide on the basis of end of day charts that markets are rangebound, therefore stay out till a trending move begins. Often, smaller size trades for mean reverson may be put on. One reason why traders should do so is the fact that sideways markets can continue for a long period.

--Could you please give an example of a setup that can be used for mean reverting markets ?

My Notes: Momentum oscillators are ideally suited to trade in range bound markets. Examples; RSI, Stochastics, CCI, CMO......Buy the dips and sell the rallies.

 Student of Market has given sensible suggestions on trading in sideways markets. Please read it here : https://sudarshanonline.com/2010/03/when-market-is-slow-and-dull.html


Niftic gives his views on the Nifty:
Nifty on the verge of making Head and Shoulder Formation Top, Bearish- Target 4150 if 4750 is broken.

amitkbaid1008 says
I use multiple time frame trading strategy and I identify trend on 5min TF and then look for pullbacks on 1min TF using CCI(3). Is it OK or not?

My Notes: Sorry, but I think it is terrible.

First, trading on 1 minute time frame is like walking over thin ice. Sooner or later you will fall into trouble. The five minute period is the lowest period for trading. Anywhere.... While traders use smaller periods, they get burned out fast. (Most traders do not undestand this - they think they can do it. But, it is never different.)

Second, CCI-3 or similar pullbacks are best suited for much higher time frames - daily or weekly. There is so much noise on the lower periods that these indicators become almost random rather than predictive.

Just for Fun

Here is an unedited version of what you may see on Monday. (Different camera also!)

Saturday, March 13, 2010

When the market is slow and dull

The Nity is in a slow market environment. 10 day Historical Volatility has fallen from a high of 30.04 to the curent level at 13.70 on March 11. This is a slow market.

Many traders make money in high volatility markets and then stop making money in low volatility environments.
Setups which rely on volatility expansion no longer work in low volatility markets.
Traders who trade on price movement may find it difficult to catch a meanigful trend since price setups are not available in slow markets. For example, a hed and shoulder pattern or an ascending triangle which may be difficult to identify in slow markets simply becasue these patterns are not being formed then.
Fast movng markets are trending or momentum markets. This requires buying strength and selling weakness. Traders can identify a trend, then ride it. Slow moving markets may become mean reverting markets, meaning buying weakness and selling strength. The transition is not easy to do.


Suggestions:
If you do find a pattern, identify a nearby profit target, then maintain the discipline to exit when the target is hit. Move stops to breakeven quickly to avoid a sudden mean reversion.
Trade less, or do not overtrade. Understand that slow markets offer few opportunities. The problem lies with the market, not with your trading.
Stand aside when markets are not giving you good trades.
Trade like a cheetah. The cheetah waits patiently stalking his prey for hours, sometimes days. When the opportunity is right, he suddenly jumps to catch the victim.

INFORMATION

Continuing our plan to hold monthly meetings, the next meeting of the ATA (Association of Technical Analysts) will be held on March 27, Saturday in Delhi. Attendance is free for members. Outstation members have the opportunity of viewing the presentation sldies, and, supporting maerials. The proceedings are being video recorded. Snippets will be posted on web site for all members, while the full dvd can probably be acquired for shipping and handling costs (for members). If you are not yet a member, do so. Visit www.taindia.org 

Thursday, March 11, 2010

Strategy and Tactics

Dr Brett Steenbarger, writing in traderfeed.blogspot.com explains the concept of Strategy and tactics in Trading.

He writes: "Many trading problems--and misunderstandings--result from a confusion between trading strategy and trading tactics.
First let's talk about Grand Strategy. Grand Strategy frames our most important values; it expresses our broadest aims and thus guides the specific strategies that we follow."

To realize its Grand Strategy, the business must engage in a variety of smaller Strategies.

The way the business implements its Strategies is through Tactics.

For a Trader:

"The Grand Strategy of a trader represents his or her fundamental way of viewing markets and edge in the marketplace. Trend following is a Grand Strategy, as is mechanical systems trading, Elliott Wave trading, order flow trading, or trading day structures from auction theory. A trader's Grand Strategy captures how he or she views markets and defines opportunity. "

The trader's Strategies will define how he or she finds opportunity in the present set of market conditions. For example, my Strategies as a portfolio manager might be to buy dips in the stock and commodities markets because I view this as a cyclical bull market. The strategy will change as my perception of the market changes.

Brett says: "When it comes to Tactics, I as a trader will be even more flexible. .... my Tactics could lead me to add to positions on a pullback in the stock and commodities markets.


The conclusion is:

Many traders fail because they jump from Tactic to Tactic, without a clearly formed Strategy and without an overarching, guiding Grand Strategy. They are focused on setups, not ideas.

My Notes: All of us should do this exercise - What is my Grand Strategy ?  What are my current strategies to implement the Grand Strategy, and, What are the tactics I am using in recent trades. If you feel comfortable, please share your ideas.

Cheers.



Wednesday, March 10, 2010

CCI-3

I  chose to write on CCI-3 thanks to a reader request which was the latest comment on the blog. So it is really a case of last request accepted.
The CCI stands for Commodity Channel Index. The term 'channel' in the name could be misleading, since the indicator does not actually create a channel, it plots a single line. Also, it is not exactly an 'Index' and it is suitable for all security types - stocks, futures, commodities, therefore it is not directly related to commodities. So much for the name.


The CCI is a momentum indicator. Momentum measures the rate of change in prices. If prices are furiously moving up, then momentum moves up with prices. If prices are moving up although at a slow pace, momentum will slow down, and, in most cases actually start falling. The fall reflects the slower increase in price.


Donald Lambert the developer of CCI suggested using a 20 period lookback to calculate the indicator. The CCI oscillates around a zero line, but it is not a bounded indicator. It is not restricted to values between 0 and 100. Lambart suggests using +100 as the resistance level and -100 as the support level.


The CCI can be used in many ways:


•CCI can be used to identify overbought and oversold levels. A security would be deemed oversold when the CCI dips below -100 and overbought when it exceeds +100. From oversold levels, a buy signal might be given when the CCI moves back above -100. From overbought levels, a sell signal might be given when the CCI moved back below +100.




•As with most oscillators, divergences can also be applied to increase the robustness of signals. A positive divergence below -100 would increase the robustness of a signal based on a move back above -100. A negative divergence above +100 would increase the robustness of a signal based on a move back below +100.


•Trend line breaks can be used to generate signals. Trend lines can be drawn connecting the peaks and troughs. From oversold levels, an advance above -100 and trend line breakout could be considered bullish. From overbought levels, a decline below +100 and a trend line break could be considered bearish.
 
•The CCI can also be used as a Trend Indicator. A move above +100 can be considered as the start of an uptrend. The uptrend remains intact so far the CCI remains above +100. A move below -100 can be considered as the start of a downtrend. The downtrend remains intact so far the CCI remains below -100.
 
AmitKBaid1008 wrote "Last two posts from you were much educating ones. I would like to know about using CCI(3) for identification of pullbacks"
 
When the default value of 20 as lookback is changed to 3, the indicator will quickly move from +100 to -100. Even a slight pause in prices will bring the indicator down to -100. The purpose of CCI-3 is to identify quick pullbacks where an uptrending stock dips / pauses for a few days and its CCI-3 falls to -100 or lower. A decline to -100 suggests that the short term dip is likely to be over. The reverse is true for downtrending stocks where a rally above +100 will tell the trader that a short rally is likely to be over and the original trend (down) will assert itself.
 
The CCI-3 should be used only where the trend of the stock is clear, only with strongly trending stocks.


Its use on intraday charts is limited, since there will be a lot of noise, causing whipsaws. Ideally, it should be use on the daily time frame.


Once the CCI-3 dips below -100 (in an uptrend), the question of trading tactics comes up. The dip in the CCI is an indication of an oversold condition, but prices may still go down before a reversal. A stop loss can be triggered at the worst possible location. This problem can be resolved by buying above the high of the latest bar, and, installing a stop below the low of the dip. Often, a dip in the CCI-3 is immediately followed by a big range day. Buying above the high could mean missing such moves, and, actually ending up at the top of a short term trend. That's a pity but the trader does not have to trade. If the CCI-3 is immediately followed by a big range day, then the trader can step aside. Sometimes, he may be lucky enough to spot such trades intra day , since he already has a short list of stocks where such moves could be expected.


Once inside a trade, look to exit on any Range Expansion (a big move in your favor) or when the CCI-3 goes above +100, or in a specific time , example: exit on the open of the third day, assuming the earlier two exits have not been trigggered.
Your feedback will be appreciated, since I have explained the concept as I understand it, maybe missing some critical elements of the strategy.


Cheers.

Monday, March 8, 2010

Trading Breakouts

Trading ranges are patterns with a message - Soon enough, prices are going to breakout or breakdown from the range. Such moves out of the range are likely to be profitable.

Consider the issues involved in trading these breakouts. (I mean breakouts and breakdowns when I refer to breakouts.)

1. When do you enter the trade?
a. Immediately on breakout
b. On pullback after a breakout.
c. In anticipation of a breakout while inside the range

Each of the choices has unfavorable consequences.
a. Immediately on breakout - The risk is of a false breakout, which pulls back inside the range.
b. On pullback after a breakout.- There may be no pullback in strong trends. So the risk is of missing the trade altogether.
c. In anticipation of a breakout - This of course runs the risk of not breaking out at all or actually breaking out in the opposite direction.

I have not mentioned the advantages of each of these entries, since readers are likely to undestand the benefits.


So, how do you trade the breakout with assurance?

Answer: Make a considered judgement by qualifying the breakout using independent tools. Then, identify the disadvantages of the entry method, and understand that there is no guaranteed outcome.
Independent tools could mean:
1. What are the other stocks in the industry group doing?
2. Is there a barrier just after the breakout which will prevent the price movement (overhead resistance for example)
3. What is the length of the trading range? A long narrow range could mean a breakout which will not look back.
4. Is price breaking out in the direction of the trend or as a reversal. Trend direction breakouts are usually more reliable.
And so on......

Finally,
A. take the trade
B. Set a stop loss
C. Keep volume at sleeping level
D. Follow your rules with discipline
E. Do not worry about the eventual outcome of this trade. Remember, you will take thousands of trades, so one trade here or there is irrelevant.

And, of course, HAVE FUN.

Saturday, March 6, 2010

The Successful Trader

Learn or you will stop trading

Many beginners feel that they can just jump in and start making money. Some think they can learn trading in 2–3 months. Can you imagine any serious profession that could be learned in such amount of time? Trading is certainly not the easiest of professions.

Quite a few traders have never even tried to learn. They thought they could use stock-picking services or newsletters, and trade their picks without deep understanding. I don’t know any of them who could make money consistently.

When new traders come to the marketplace, ready to trade stocks, they buy here and sell there based on opinions or systems they don’t really understand. It is easy to make profits in trading without any effort. You just have to get lucky. Then comes either the big loss or a string of losses.

Conclusion: Traders must go through a process of learning before they can start making money consistently.

How do you Learn?

The basic requirements are the same as for every learning system - Books, web resources, technical analysis software, seminars, courses, certification. There is one additional requiement: Practice. While practice makes perfect in every profession, in trading it is an essential requirement.

Can retail traders be successful in Trading?

Yes, of course. Most successful traders are retail traders. When you go through the learning and practice process, you get transformed from an amateur to a professional.That's when you reach success.

When I write about retail traders or amateurs, I am referring to people who enter the trading world without adequate preparation. Often, I have mentioned that beginners should not rely on trading for a living. This is the reason. When you are learning, you do not expect education to actually provide you with an income stream. That comes after your learning s over. Moreover, thanks to futures & options it is possible for beginners to overtrade using the leverage provided by derivatives. That becomes a deadly combination - beginner + leverage.

I receive calls from novices (like Housewives or retired people) who have taken on large futures positions. (They call me when mark to market losses start). Should they be dabbling in derivatives? Answer is - NO.

Final conclusion

Trading is a joy. Like all professions, you have to give your dues to trading (time spent in learning and practice), then you get the rewards.

Friday, March 5, 2010

Invictus

Thursday evening proved to be  memorable experience when we went to watch the movie 'Invictus'. The movie, directed by Clint eastwood is a remarkable lesson on life. A web search tells me that Invictus is the title of a poem, written by English Poet Henley in 1875. The first lines start with:

I thank whatever gods may be
For my unconquerable soul.
 
the end of this short poem says:
 
I am the master of my fate:

I am the captain of my soul.

----------------------------------------------------------------------------------------------

If we are masters of our fate, we cannot blame choppy markets for out trading setbacks. Let us consider the current market situation. The Nifty has broken out of a trading range. That is a buy signal.  Now comes the confusion:

1. If I have not yet entered the Market, then should I buy now? [risk: market may start a correction immediately after I enter]

2. If I wait for a correction, then what is the assurance that the market will indeed correct. Also, The correction may be shallower or deeper than what I anticipate. [risk: markets may not correct, finally pushing me to buy at panic levels]

3. If I do enter at correct levels, what is the assurance that the market may continue going up? Suppose, it begins a downtrend. Then, how do I get out? [risk: the exit may in fact be the exact low of the dip]

There may be many more of such questions, which are difficult to answer.

-----------------------------------------------------------------------------------------------------
My Notes: Extensive study enables the trader to make sensible decisions. He gets confidence because of his experience / study. He know that if he is wrong, so be it, since there will be many more opportunities.

Wednesday, March 3, 2010

Why not just Buy and Hold?

Danish Kapur gets it right, when he asks:

"I have one question. You said that your annual return last year was 80%. Market as a whole returned more than 100%. So, would not it had been better if one had invested in market and left with some tracking here and there rather than spending day and night and still underperforming market as whole. I know one can argue against me giving example of 2007 when markets fell equally but let us take average of last 10 years returns and that will give better picture of one's performance rather than one year."

My Notes:

Most traders will underperform the markets when there is a secular bull run going on. I know this sounds surprising, but that's my perception. Now, markets also go through significant declines. These periods will allow the trader to gain more than the market, therefore giving a return that is likely to be superior to the Market's performance. My own experience is also what I have described here.

Why not just buy and hold? We cannot do so since we do not know in advance the periods from which buy and hold will outperform trading. But, sooner or later secular uptrends are detected and our investments are increased (for the buy and hold gains) from debt to equity. Trading funds are not touched.

Many readers should recall earlier posts where I have written about realistic expectations. If we do not expect too much from trading, then trading is likely to reward us more than a simple buy and hold strategy. If we want 100% returns every month, then we can quickly see our money vanish.

If we could detect the beginning of a bull market, then we can switch to a long only trading strategy. But, even this strategy will underperform a strongly uptrending market / stock. The reason lies in exits. Often, such systems will be flat while prices suddenly make big, unexpected gains.

Monday, March 1, 2010

Are you transferring wealth to Big Traders?

cxoadvisory.com has done a study of Chinese individual investors which says that:

In summary, evidence from detailed Chinese stock account data indicates that the trading of unsophisticated individuals tends to transfer their wealth to institutions and more sophisticated individuals (and to brokers and the government).


My Notes: This should almost certainly apply to Indian retail traders dabbling in Futures & Options.

---------------------------------------------------------------------------------------------------------

The same web site talks about Refined Short-term Reversal Strategies.

The conclusion is: Short-term stock return reversal is pervasive and larger than previously found, with overreaction to industry-specific discount rate news a principal driver .

A simple way of inferring discount rate shocks is to look for stocks with prices and earnings forecasts moving in opposite directions

My Notes: Difficult to read, isn't it? To buy, search for stocks registering a one month decline, which have robust earnings. The opposite is true for selling, where the trader should look for one month rallies in stocks with earnings disappointments. Please visit the site and read the full article if you wish to practice such a strategy.

---------------------------------------------------------------------------------------------------------

Questions & Answers:

Reader pranav.kulkarni asks:

Dear Sir, One personal question please. How much percent of return you earned last year from trading only??

Answer: For year 2009, the returns were approx 80% on the capital invested in trading. One big gain was the May election gap when I was long in Nifty calls. (The suggestion to buy was given over TV, in this blog , before the results came out.) Now, this was luck, but you must understand that traders get lucky because they remain in business, with managed risks.


Saurabh Asks:

a. Entrance into congestion
b. A trade within a congestion
c. A breakout from a congestion area
d. A trend run
e. Trend reversal

Based on your personal experience which one of these 5 mentioned above would be most profitable, based on historical data ?

My Notes:

The trades that I have never found to be profitable for me are:
a. Entrance into congestion
b. A trade within a congestion
e. Trend reversal

For me, setups that are proftable are:
c. A breakout from a congestion area
d. A trend run

Both of these are actually trend following.

Reversal Trades are profitable when used for Investments. I have explained earlier that I go for themes when investing. Usually, there are no stops. The trades are closed when the theme is no longer avlid.