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Probabilities vs. expectations

  
  Education
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I expect to wake up tomorrow morning and not die during the night.

I expect that I will be able to get out of bed and know how to walk to the kitchen.
I expect my car will start.
I expect the other person will stop at the red light.
I expect that I won’t get hit by lightning.
 
Seeing that expectations are what normal everyday life is founded on, is it natural to think that you can expect a stock to trade in a particular direction? Only if you want to become a loser.
The markets and stocks are not everyday life. They have the ability to do anything at any time. The only thing 100% certain is that they are 100% unpredictable.
If you have expectations, it means you have an emotional attachment or interest in an event outcome. Do you expect to make money, have a winning trade, make a right decision? When they happen are you giddy with excitement, gushing to all who will listen that you are so smart. What happens when you are wrong? How about wrong ten times in a row? If you live the highs you will be living the lows. Your expectations will destroy your confidence and thus your account. Your ego will take you back to childhood where you will throw tantrums and stomp your feet looking for a sympathetic ear. “The markets aren’t fair” you say. Well the markets don’t give a shit what your want or when you want it.
Now if instead you trade the probability of a outcome to an event, you can put a wall up between yourself as a person who is on autopilot accepting everyday expectations and you as a successful trader who is ruthless in the execution of your plan. Thinking, trusting and truly believing in probabilities will save the day for you. When you think that “based on my experience, seeing a very similiar situation before, odds are that the near future direction of this stock is this way. However since this event is unrelated in every way to my past memories, I must choose the point at which my decision will be proven wrong and set a protective stop here.”
When you think this way, it doesn’t matter whether you are right or wrong. You are simply carrying out your trading plan based on your experience/edge. Playing the averages. You don’t get hurt by losing trades. You don’t get happy over winning trades. Whatever happens, happens. Being cold and calculating brings you as a trader closer to the machines that are running the show these days. (more…)

7-Day Commercial Paper Rate Hits 18 Month Highs

  
Analysis, Economy, Education
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The crunch in funding continues. There is $673 billion in Commercial Paper maturing over the next month and a half. The problem is that the rolling of all this paper will come at increasingly higher costs. Today the market for US 7 Day CP hit level of 0.61%. As the chart below indicates, the current CP rate is not only the highest in 2010, but higher than CP costs during the March 2009 market lows. More worrying is that despite the recent unprecedented volatility in daily rate swings, the trend is one of an accelerated increase. At this rate of increase, the Fed may soon need to put the CPFF program back in play.The most worrying is the implication 7 Day CP rates have for the FF rate: while 7 Day CP historically has tracked the Fed Funds tick for tick, over the past few months we have once again seen a major divergence between the two. In this closest proxy to short-term funding, the market is now notifying Bernanke that the Fed Funds rate is now about 36 bps off and increasing.

And the spread to the Fed Funds rate:

Rosenberg: "The Pattern Would Suggest A Test Of 5,000 On The Dow

  
Analysis, Education
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The latest set of fundamental and technical observations from the bearish Canadian.

Well, well, so much for consensus views. Like the one we woke up to on Monday morning recommending that bonds be sold and equities be bought on the news of China’s “peg” decision. As we said on Monday, did the 20%-plus yuan appreciation from 2005 to 2008 really alter the investment landscape all that much? It looks like Mr. Market is coming around to the view that all China managed to really accomplish was to shift the focus away from its rigid FX policy to Germany’s rigid approach towards fiscal stimulus.

What is becoming clearer, especially after the latest reports on housing starts, permits, resales and builder sentiment surveys, is that housing is already double dipping in the U.S. The MBA statistics just came out for the week of June 18 and the new purchase index fell 1.2% – down 36.5% from year-ago levels and that year-ago level itself was down 22% from its year-ago level. Capish, paisan? So far, June is averaging 14.5% below May’s level and May was crushed 18% sequentially, so do not expect what is likely to be an ugly new home sales report for May today to be just a one-month wonder. Meanwhile, the widespread view out of the economics community is that we will see at least 3% growth in the second half of the year: fat chance of that.

What is fascinating is how the ECRI, which was celebrated by Wall Street research houses a year ago, is being maligned today for acting as an impostor — not the indicator it is advertised to be because it gets re-jigged to fit the cycle.

From our lens, there is nothing wrong in trying to improve the predictive abilities of these leading indicators. Still — it is a comment on how Wall Street researchers are incentivized to be bullish because nobody we know criticized the ECRI as it bounced off the lows (not least of which our debating pal, James Grant). For a truly wonderful critique of the ballyhooed report that was released yesterday basically accusing the ECRI index as fitting the data points to the cycle – not the case, by the way – have a look at ECRI Weekly Indicators Widely Misunderstood that made it to our friend Barry Ritholtz’s blog (“The Big Picture”).

As for the equity market, we are at a critical juncture and it could break any day. After successfully testing support at the key Fibonacci retracement level of 1,040, the S&P 500 has since bounced up to the 200-day moving average of 1,115 – and this failed to hold. Resistance prevailed. My sense is that the market will break to the downside, and for three reasons:

  1. Even if a double dip is avoided, the market is not priced for a growth relapse.
  2. The intense volatility in the major averages over the past three months is consistent with the onset of a bear phase.
  3. Bob Farrell believes a test of the March 2009 lows is likely. I don’t think anyone is in a position to debate five decades of experience, not to mention his track record. Louise Yamada, a legend in her own right, not to mention the likes of Bob Prechter and Richard Russell, are on this same page. Notice how none of them work at a Wall Street bank. (more…)

Five Rules of Wealthy Traders

  
  Education
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1.  Wealthy traders PLAN EVERY SINGLE TRADE. “In simple terms [wealthy traders] know exactly what they want to pay, how much money they anticipate making (or losing) and a very clear idea on the probability of the trade working out.”

2.  Wealthy traders STOPPED TRYING TO PICK TOPS AND BOTTOMS years ago.  “Simply put, 95% of the traders out there that make money are buying higher highs and selling lower lows. [Wealthy traders] do the exact opposite of nearly everyone out there because they found out long ago that picking tops and bottoms is a sucker’s bet.”

3.  Wealthy traders are PATIENT WITH WINNERS and RIDICULOUSLY IMPATIENT WITH LOSERS. “Most traders have a great deal of patience with their losers but get nervous about locking in gains and sell them to quickly – the exact opposite of what wealthy traders do.”

4.  Wealthy traders TRADE ONE MARKET. “Focus on trading one market exceptionally well rather than try to trade whatever’s hot – that’s how wealthy traders do it.”

5.  Wealthy traders gauge success on ANYTHING BUT MONEY. “The growing trading account simply becomes a nice result – a side benefit if you will – of making good decisions and reading the market well.”

12 Trading Rules

  
  Education
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121. Loss of opportunity is preferable to loss of capital

2. Picking safe, readable, and ultimately high probability trades is the way to go

3. Use logical profit objectives for all positions. Know your exits and stick to them

4. Markets are squirrelly animals – make your trading plans ahead of the market

5. Don’t buy new highs or sell new lows – wait for the market to come to you. Buy retracements. If you miss the train, don’t beat yourself up – another one will come by shortly

6. Above all, follow your own trading plan and no one else’s

7. Trade quietly – with the exception of a mentor, tell no one about your positions, profits, or losses. This is especially true for those who are close to you, like your wife, husband, or friends. This self-gratification process or sharing process will put you under psychological pressure to win on every trade and can be a primary reason for failure to follow your plan

8. Don’t carry a sizeable position when traveling. The market will always catch you off guard at the most inopportune time

9. You are only one trade from humility. A swelled head does not belong on a trader’s shoulders

10. Add to your knowledge before attempting to add to your wallet. Newbie traders think they can become pros with little more than a computer and hope. In this business, hope is a four letter word. Show me a humble trader, and I’ll show you someone ready to learn

11. Develop your sense of humor – you’ll definitely need it

12. Help other traders whenever you can. This is more practical than philosophical – giving keeps the ego in line and when you need help, and you will, you’ll find it.

Improper Trading Psychology

  
  Education
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How do you know you have an improper trading psychology?  Here are a few things to look out for:-

1. Feeling too much stress
2. Successful ‘paper trading’, but not successful when trading the real markets
3. Getting mad or too joyous, depending on your trading outcomes or results (excessive highs & lows)
4. Feeling fear
5. Can’t ‘pull the trigger’
6. Fail to exit trading positions at stop loss points
7. Exit trades to relieve anxiety
8. Impulsive trading, etc.

When ‘paper trading’, you are apt not to feel the psychological impacts of real trading.  Thus, ‘paper trading’ will not generate most of the above psychological feelings.  However, when making the transition from ‘paper trading’ to real trading, the psychological issue may be felt and have to be dealt with just like when you learned the skills of your trading system. 

When you hear that trading is both an ‘art’ and a ‘science’, it often refers to the combination of psychology and feelings, with that of a technical trading approach.

In order to be successful, the psychology has to be mastered and managed.

To lose Money :Just follow 6 points

  
  Education
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LoseMoney4_Full

Here is some common advice that I see all the time, that if you follow it you will lose.
Don’t fall into the trap of accepting it or following it.
Here are 6 of my favorites:

1. Day trading is a low risk high reward way to trade
How many writers do you see talk about day trading and how successful they are at it?
Lots!
Now:
How many of them can show a real time track record of profits over the long term?
None.
This is simply the dumbest way to trade there is. (more…)

Asymmetry

  
  Education
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symetryA general principle in trading for me is that without thorough investigation, comprehension, and experimentation leading to full acceptance, no trading rule or system can be properly executed. If one cannot completely understand and embrace the reasoning behind some method or axiom, whether internally discovered or externally given, the reflex necessary to act without further thinking or doubt is fatally compromised — the circuit between the eyes watching the screen and the finger on the trigger cannot afford even the slightest impedence. One area in my trading which I’ve been struggling over has been the disparity between the success of my entries versus the failure of my exits on profitable trades. If I had the ability to accurately anticipate and identify the origins of a move, why were my attempts in capturing and keeping the bulk of the profits so horribly inept? Why was my timing in closing trades so blatantly pathetic in comparison with their openings, to the point where I would either consistently stop-out on the lows of retracements, or conversely wind up giving back the entire move if I tried to avoid getting shaken out. (more…)

10 Trading Points

  
  Education
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1) When you see a market extended to the upside or downside, in which many new buyers or sellers pile in at the new highs or lows, be on the lookout for opportunities to fade the move. The market, on average, doesn’t reward those who chase highs or lows or who panic out at price extremes.
2) A market that trades above or below its value area on weak volume is likely to return to that value area. A breakout turns into a trend when higher/lower prices attract market participation.
3) A broad, high volume breakout move to new highs or lows from an extended range is more likely to continue in its breakout direction (and move significantly in its breakout direction) than a narrow, low volume breakout move from a briefer range. Such moves are sustained by the larger number of traders on the wrong side of the market who will have to cover their positions, thus accentuating the breakout move.
4) A breakout move accompanied by a fundamental catalyst (earnings report, news event, shift in interest rates, currency movement) is more likely to continue in its breakout direction than a breakout move that occurs without other asset repricing. Large institutional traders are more likely to reprice equities in the face of significant fundamental drivers in correlated markets.
5) Don’t chase price highs or lows; sell when buyers take their turn and can’t move the market highs; buy when the sellers take their turn and can’t move the market lower.

6) Identify what the market’s largest traders are doing and go with it on weak countertrend action. The large traders account for the majority of the market’s volume and volatility. If they are buying or selling stocks, you don’t want to get caught fighting them. Wait for pullbacks to enter in the direction of the institutions.
7) If it’s a slow market (relatively few large traders), consider the possibility of range bound action. Low volume means low volatility, and that is generally associated with relatively narrow price ranges. Take profits quickly in such markets and set targets modestly; moves tend to reverse readily.
8) If it’s a busy market (relatively many large traders), consider the possibility of volatile market action. A market with high volume means that large traders will be capable of pushing price up and down to a greater degree than average. Adjust your stops and targets to account for this incremental volatility.
9) If many sectors don’t participate in a new high or low for the broad market index, consider fading the new high or low. A trend with staying power will tend to lift or depress all major stocks/sectors. When many issues or sectors don’t participate in a market move, the buying or selling in the index is often confined to a few issues that are highly weighted. Such moves generally are not sustained.
10) If you anticipate a broad move by equities, consider trading the most volatile indexes and the sectors with greatest relative strength. What you trade is just as important to results as the timing of trades. Go with the dominant market themes unless you have tangible evidence that those themes have changed.

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