Suggestions to Speculators

 Chapter 14

Suggestions to Speculators

Be a Cynic When Reading the Tape

We must be cynics when reading the tape. I do not mean that we should be pessimists, because we must have open minds always, without preconceived opinions. An inveterate bull, or bear, cannot hope to trade successfully. The long-pull investor may never be anything but a bull, and, if he hangs on long enough, will probably come out all right. But a trader should be a cynic. Doubt all before you believe anything. Realize that you are playing the coldest, bitterest game in the world.

Almost anything is fair in stock trading. The whole idea is to outsmart the other fellow. It is a game of checkers with the big fellows playing against the public. Many a false move is engineered to catch our kings. The operators have the advantage in that the public is generally wrong.

They are at a disadvantage in that they must put up the capital; they risk fortunes on their judgment of conditions. We, on the other hand, who buy and sell in small lots, must learn to tag along with the insiders while they are accumulating and running up their stocks; but we must get out quickly when they do. We cannot hope to be successful unless we are willing to study and practice—and take losses!

But you will find so much in Part Three of this book about taking losses, about limiting losses and allowing profits to run, that I shall not take up your thought with the matter now.

So, say I, let us be hard-boiled cynics, believing nothing but what the action of the market tells us. If we can determine the supply and demand which exists for stocks, we need not know anything else.

If you had 10,000 shares of some stock to sell, you would adopt tactics, maneuver false moves, throw out information, and act in a manner to indicate that you wanted to buy, rather than sell; would you not? Put yourself in the position of the other fellow. Think what you would do if you were in his position. If you are contemplating a purchase, stop to think whether, if you act contrary to your inclination, you would not be doing the wiser thing, remembering that the public is usually wrong.

 

 Use Pad and Pencil

If you wish to “see” market action develop before your eyes, I suggest that you adopt the use of pad and pencil. Many of us find it difficult to concentrate; but I know that I have often missed important action in a stock because I did not concentrate. Try the pad-and-pencil idea; keep track of every transaction in some stock. Write down in a column the various trades and the volume, thus: 3—57½ (meaning 300 shares at $57.50). When strings appear, write them as connected sales so that you may analyze them later. Note particularly the larger blocks. Reflect upon the result of these volume-sales; note where they came.

It is remarkable what this practice will do for one’s perception. I find that it not only increases greatly my power of observation, but, more important still, that it also gives me, somehow, a commanding grasp of the action which I should not otherwise have. Furthermore, I am certain that few persons can, without having had much practice at it, remember accurately where within the action the volume came.

If you cannot spare the time to sit over the tape for this practice, you can arrange with your broker to obtain the daily reports of stock sales of the New York Stock Exchange. They are published for every market day by Francis Emory Fitch, Incorporated, New York City. Each transaction is given, with the number of shares traded and the price. From these sheets you can make charts of every transaction, and study where the volume increased or dried up, and the action which followed.

I know of no better training than to practice forecasting future movements from these charts and then check up to see if you have judged correctly. When you miss, go back over your previous days’ action, and see if the signals were not there but that you misinterpreted them. It is so easy to undervalue some very important action that some such method is necessary. I have found this one to give splendid training, and I use it constantly.

 Trade Alone

This counsel may be the most important I can suggest: trade alone. Close your mind to the opinions of others; pay no attention to outside influences. Disregard reports, rumors, and idle boardroom chatter. If you are going to trade actively, and are going to employ your own judgment, then, for heaven’s sake, stand or fall by your own opinions. If you wish to follow someone else, that is all right; in that case, follow him and do not interject your own ideas. He must be free to act as he thinks best; just so must you when trading on your own initiative.

You may see something in the action of a stock that some other chap does not notice. How, then, can he possibly help you if you are making a decision upon some occurrence which you have studied but which he has never observed? You will find hundreds of people ready to give you free advice; they will give it to you without your asking, if you raise your eyebrow or look in their direction. Be a clam, an unpleasant cynic.

Have no public opinions of your own, when asked; and ask for none. If you get into the habit of giving opinions you are inviting an argument at once. You may talk yourself out of a decision which was correct; you will become wishy-washy in your conclusions, because you will be afraid of giving an opinion which may turn out wrong. Soon you will be straddling the fence in your own mind; and you cannot make money in trading unless you can come to a decision. Likewise, you cannot analyze tape action and at the same time listen to 42 people discussing the effects of brokers’ loans, the wheat market, the price of silver in India, and the fact that Mr. Raskob and Mr. Durant are bullish.

Dull markets are puzzling to traders, doubtless because it is difficult to rivet the attention on the tape when it is inactive. If the tape bores you, leave it alone; go out and play parchesi—do anything but join in the idle, unintelligent gossip in a broker’s boardroom.

Use a pad and pencil, as I suggested. It will occupy your mind and concentrate your attention. Try it; you will not be able to chatter and keep track of trades at the same time.

I may seem to write acidly here, but I have been through it, and have been one of the worst offenders. It was great fun to strut my opinions, but it increased the amount of red ink in my account; I know that. The worst of it is that I unconsciously may have hurt someone else when I participated in boardroom talk, to say nothing of unsettling my own thinking.

 Do Not Watch Every­ Stock

Just as I urged you several pages back to watch Steel, so do I beseech you now not to try to watch too many stocks. It cannot be done. If you are going to keep accurate account, mentally, of volume and of the condition of supply and demand, you must perforce concentrate. Do not attempt to watch more than three stocks in addition to Steel; certainly not more than five. Many successful traders operate in only one stock; but they know that one.

To be successful, we must become thoroughly acquainted with our trading stocks; we must learn their peculiarities, must determine their resistances and so-called support levels. We must watch for important transactions, to note where within the day’s range the volume comes.

Unless we have unusual minds, it is impossible for us to retain, and register, the action of more than from three to five stocks.

The Use of Charts and Statistics in

Conjunction with the Tape

The interest in charts is so widespread that I believe some reference should be made to them. There are various kinds: daily, weekly, and monthly. Some traders chart even hourly action.

A chart of daily action is probably the most satisfactory, although for tape-study I have recommended that charts be kept of every transaction for practice in observation and perception. It would be difficult to keep any quantity of these latter graphs, because of the time it takes to make them.

A chart of daily action presents a clear picture of the position and previous action of active stocks. The chief value of charts lies in their enabling one the more easily to judge the trend. There are also many other indications which the charts give us, and which, when checked with the tape, are of value to the trader. However, many traders employ them mechanically and do not seem to realize that a chart is nothing more than the day’s combined opinions of buyers and sellers of stocks. If the underlying human motives are understood, and if it is recognized that there is no sure-fire system which may be “played,” charts are invaluable.

In Stock Market Theory and Practice, a recent book on the market, Schabacker discusses chart formations and their interpretative value. I refer you to this book; the author’s explanations of charts and their uses, are detailed and clear-cut, and are supported by countless illustrations of the various movements.

I have heard traders claim that they do not need charts because they fix in their minds a picture of the previous action of the stocks in which they are interested. I seriously doubt if it is humanly possible to retain accurately in one’s mind the previous action, and the present position as it is compared to the previous action, of one stock, to say nothing of that of fifty or a hundred stocks.

The use of statistics and a knowledge of investment fundamentals are, of course, accepted as necessary to participation in the market. So many adequate books have been written on the economics of investment that it would be presumptuous of me to attempt to cover the ground again here. Naturally, I urge the use of both by the trader on the intermediate trends. However, I doubt if the daily speculator can use statistics. Surely the statistical position of a company, or of general business, can have little to do with the minor fluctuations of stock prices.

The intermediate trends, however, are often affected by the quarterly earnings of corporations (which, remember, are discounted in advance of their publication) and by the condition of business generally. The money-market, the credit situation, the commodity markets, and other related commercial and industrial factors, all must be given their weight in judging and forecasting the trends of stock prices.

Here again, however, we may turn to the tape for the result. The market reflects all of these fundamentals, and discounts improvements or set-backs in general conditions. Individual corporate situations, likewise, are reflected in advance in the action of the market.

Statistics are past history; this fact must never be lost sight of. The earnings of the last quarter, when published, have little to do with the market action at the time of reading. They are of value in estimating present and future earnings, which the market is discounting. Never buy and sell on the basis of past history, except when you are selling to discount the good news which is finally released, or are buying when the uncertainty, or poor report, is removed.

In bear markets prices do decline on bad news, and rally on good news. Inasmuch as 1930 is behind us, I see little to be gained from a detailed discussion here of how to combat a bear market, other than the knowledge that we must watch the volume and trade with the trend, which I have already elaborated upon. It is an accepted theory that it is safe to make investments in a bear market when the market ceases to decline on bad news.

The tape student will find it difficult at first to correlate all of the various factors which are reflected on the tape; but as his knowledge and study widens, he will learn the key point: discounting. Volume activity will show him the extent of the enthusiasm or pessimism of all buyers and sellers.

 Acting Contrary to the Public

The question when to act contrary to the public, is a difficult one to answer. At important turning points, I believe it is safe to state, the public is always wrong—that is, the majority. As I stated on page 28, I adopted this theory in November, 1930, to detect the temporary bottom of the long decline. The public wanted to go short at the bottom. Prices had sagged for so long a period that it was finally considered that short sales were the only way to make money. However, when everyone wants to buy, or when everyone wants to sell, look out!

During the intervening movements, however, it is more difficult to determine the best course to pursue, whether to follow your inclinations or act contrary to them. For example, when, after prices have been rallying for some time, a reaction sets in and margin accounts start selling, it would not be wise to buy. First, we must determine the extent of the reaction; we must time our purchases so as to buy when the selling wave appears exhausted. Contrariwise, we should sell before the public on the signal of the increased volume and price activity which mark turning points, and not wait to go in the opposite direction at the first signs that the public is selling.

I wonder if I have made this clear. Perhaps a few more examples will help to straighten this thought out. I feel that it is very important, inasmuch as I know that I have blindly gone contrary to my first inclinations at times, only to learn afterward that I should have followed my first thought and gone with the public for a part of the way, and then “crossed” them later at the strategic hour.

Do you remember the several sudden breaks during 1929? There were a number which were caused by the warnings of the Federal Reserve Boards. The Boards withheld their announcements until after the close of the markets. In those cases the wise course to pursue would have been to stop and ask ourselves: “What will the rank and file do in the morning? Will they sell at the opening?” Then, it would have been necessary to act in a fashion contrary to that of the public.

In several instances which I recall, stocks opened considerably off in the morning, but, so soon as the selling had been absorbed, started their advance once more. The profitable move then would have been to buy upon the confirmative signs of the heavy volume of selling-orders being well taken—when the important buying appeared and demand overcame supply. The signs were there. We had the active churning of stocks without further progress on the downward side.

Over the long pull—even over the major intermediate movements—you can safely cross the public and make money. The ideal situation is a result of your having timed your actions so that you precede the public in buying—that is, buy when stocks are being accumulated—then you can go along with the majority during the major portion of the advance, and can part company at definite signs of increased public participation without corresponding progress in the movement of the stock. The greatest public participation is near and at the tops, because, as we have learned, rising prices attract a following.

 Trend Trading

Roughly speaking, there are three types of trends: the long-pull; the intermediate; and the immediate, or short-term. Conservative traders operate within the intermediate trends. These last for anywhere from two weeks to six months. They can be gauged with profitable accuracy, whereas the minor movements are hazardous, owing “to the fact that you must act so quickly in order to get in and out. A reaction of four points within an intermediate movement of fifty points, certainly is not worth playing for; yet it may appear attractive on the tape.”

The danger lies in the fact that our conclusions are not usually formed instantaneously; by the time we have been attracted to the reaction and have decided to sell, the reaction is over. The intermediate trends, however, allow time for thoughtful consideration. The profitable portion of these moves is in the middle. In an irregular market, buy when the action confirms the trend, and sell early. In a one-way bull market, sell when there have been one or two days of rapid progress on heavy volume following an important, gradual advance. Let the other fellow have the top and bottom.

If you intend to trade with the intermediate moves, be careful that your constant tape watching does not throw you off. A minor movement on the tape may upset your calculations. There is no doubt in my mind that if you are going to attempt to play for the minor fluctuations you must sit over the tape all of the time; but I believe that you are better off to study the tape only occasionally, to check your position, if you are operating for the intermediate trends. The bigger the movement you are maneuvering for, the less important become the hourly fluctuations.

However, an occasional check-up is, of course, wise, to let yourself know of important changes and of any increase in volume activity; it will either confirm your judgment to stay with your commitment, or cause you to question your position. In the event that you notice something which does not look quite as you would like for it to, then, naturally, you will want to study the action more closely. If you do notice action which you do not entirely like, do not hope. Watch, analyze, study! Sell quickly if you think something unexpected has occurred. You can buy in again any time, but you cannot bring back profits which have been wiped out by a sudden, unforeseen reaction. You can wait, of course, for later profits; you can take a small loss and start over again; but there is nothing so satisfying as taking a well thought-out profit.

Remember, you are trading; it should never for a moment unsettle you to see a stock advance ten points just after you have sold it. Try again; check your judgment; perhaps you failed to notice the right signal. Never mind; the market will be open tomorrow. Remember that it is the time at which you enter your order, not the price you pay, which returns the profit.

Trade with the trend, not against it. This is so fundamental that it scarcely needs discussion, but I have seen many traders “buck” trends in their commitments. When you have determined in which direction lies the trend of your stock (and of the general market, for it seldom pays to trade in a stock which moves contrary to the market), place your orders. But, so soon as you think the trend has turned, sell quickly. Hundreds of losses have been incurred because it was hoped that the trend had not reversed.

 Capitalization and Floating Supply

Stocks with large capitalization have greater floating supplies of stock in the hands of brokers and traders than do those whose capitalization is small. The ideal trading stock is one of which there is a large floating supply, which is being traded in constantly, and which is shown on the tape frequently. The larger the floating quantity of stock, the less will the stock gyrate abnormally. Naturally, it takes a great deal more buying to move a stock with a floating supply of 3,000,000 shares than it does one with only 100,000. Wild-swinging and mystery stocks are usually those of small capitalization. Stocks which will advance or drop perpendicularly ten to twenty points in one day, are dangerous trading mediums. However, they are very profitable for you if you are on the right side; they are very attractive to buy and hold when you believe the trend is up.

My theory is to buy them outright and hold on tight for the important move. They swing so widely that it is most difficult to catch the in-between moves. Furthermore, they will often destroy your appetite and cause you to lose valuable sleep, if you misjudge the time to buy.

Let me counsel you, therefore, to seek unusual situations among these wild stocks for outright purchases and limit your more active trading to the stocks which are more stable, which do not jump several points between sales. Steel, for example, seldom moves more than an eighth between trades; yet it enjoys exceedingly profitable moves. There are many stocks, of course, which are good trading mediums. Select two or three which are active, stable between sales, and popular with the public.

Naturally, you will first satisfy yourself as to the fundamental soundness of the stocks. If their future prospects are bright, they will undoubtedly have the sponsorship of strong banking interests and the steering of strong pools—a winning combination for the trader who can read the tape action.

 Patience is a Market Virtue

As a final suggestion, may I record here my plea for market patience? If we all would trade only when the trend is definitely indicated and then patiently wait until the action signifies the probable termination of the move, how much larger our profits would be! Six to twelve successful trades in a year, based upon the important, intermediate trends will return far greater profits than countless attempts within the minor fluctuations, whereby a large number of losses must ensue and where the profits will be small.