Trading to Win

June 17

Self – Control II

 

“My fault, my failure, is not in the passions I have, but in my lack of control of them.”

 

Jack Kerouac

 

 

 

Whether you trade in a room full of traders or in an office in your home, trading can be a lonely business. As a Discretionary Trader, pitting yourself against some of the best mathematical minds in the world, aided by programmers with computing power that seems daily to only get faster and more powerful, is a courageous act in and of itself. For that you should be proud. However, I’m well aware that when trading is not going well, particularly when I have let a winner turn into a loser, my anger tends to turn inward creating a sense of anxiety, a sense of urgency to do something,  and that is precisely when I am in danger of losing my self control. What can the Discretionary Trader do?

 

First of all, the conclusion I have drawn about the algorithmic trading we face is they are first and foremost market makers. These past two years have shown that few if any players truly know where the market is headed. And for that reason my assumption is that the market is broad and deep enough that among the thousands of competing programs, they are not in the business of predicting direction. And even if they were, they work independently and might as well be classified as discretionary traders, which is exactly how I regard them. In fact, I ignore them and focus on price, a viewpoint that requires I heed the market.

 

That being said discretionary traders are at a distinct disadvantage when we lose our self-control. All the fine research and work we do can be sacrificed in a momentary fit of panic, or anger, or some other outside source of anxiety that undermines our self control. And this typically leads to losses. (Some of you might be saying at this moment. “Yeah but I have made some great trades when I’m mad.” That may be true. I know I have. If I am honest with myself I would also have to admit a fair amount of luck, timing, and execution skill brought that winning trade home and I would not want to depend on that method for my living.) What can be done then to deal with a loss of self control?

 

Have a rule that outlines what you will do when you are in front of the screen and become angry. It may be as simple as to stop trading and get flat or put in a stop based on sound analysis – not wishing and hoping. It may involve leaving your screen for awhile to cool down, figure out what just happened, and gathering yourself. You may have to write down what you are feeling at that moment and how you would rather feel. If you feel confused about the market admit it. What must you do to get clarity? Do that. And if you have entered a trade in anger – be honest with yourself and get out. Treat it as a broker treats an out trade. Sure it might be a huge winner if you hold on but that strategy will not serve you in the long run. This rule needs to be written down and in front of you while you trade. Otherwise you will ignore it. I promise you will. However if you have the rule in front of you, your chances of heeding it when the time comes will be greatly increased. And as you follow it, it will become a habit – a good habit.

 

Trading is awareness of the market and your distinct reactions to it. Trading is your life in microcosm. Be aware of your moods and how outside forces affect you. Note them. And when you sense your self-control slipping, heed your rule. Doing so can make a make a positive difference in your P&L. After all, isn’t that why you are trading?

1:20 PM GMT  |  Read comments(1)

June 09

Self-Control

 

“Whatever is begun in anger ends in shame.”

Benjamin Franklin

 

 

 

 

A truck pulls out in front of you.  You’re late. You curse your luck. The truck has mud all over the sides and the diesel smoke rises in plumes each time the driver shifts into a higher gear finding it’s way to your lungs. The stones fall from the gate at the back each time he goes over a bump and threatens your pristine metallic paint. Or worse yet something is dripping from the truck and you have no clue what the chemical composition might be. “What is up with this guy?” It could be awhile before you can pass him. You’re going to miss the next light and you yell at the truck. That accomplishes a lot!

 

Have you ever stopped to think the guy is just doing his job? Does he know you are late? Perhaps then, he would wait to pull out because he knows you would do the same thing. Would you? But he isn’t a mind reader and doesn’t know you curled up, hit the snooze button, then couldn’t find the folder with charts you did last night to prepare for the monthly employment report from the US Department of Labor. This is, after all, your doing, unless of course you want to blame that on someone else too.

 

Worse yet, do you ever get the urge to fight? Unprovoked, I occasionally yell at other drivers because they do not follow the basic rules of driving. And where does that get me except a fleeting feeling of false superiority? Pretty harmless behavior you think but what if while in front of a trading screen, my anger begins to leak out as my position bleeds my money and I’ve got two hands on the keyboard? Have you ever hit the arrow button a few too many times? Or long, clicked the ‘buy’ button out of spite in a volatile down move in the market? The source of the anger doesn’t have to be a poor position. It could be a conversation that went wrong with your ‘significant other’ – I can’t believe I have resorted to using that term! – or maybe there is some other stress in your life. It simply could be who you are. But I guarantee that unless you recognize those feelings and stem those urges it will manifest itself in your trading.  If you ignore those feelings it will hurt your profitability. And the reason is discretionary trading is all about self-control.

 

It is exactly these emotions that algorithmic trading avoids and part of why those programs are becoming so popular. According to Wikipedia – only the best sources on this blog – algorithmic trading accounts for 33% of stock trading volume and will rise to 50% by 2010. Depressed? Don’t be. You can avoid the anger trap. You can be in control. And you can beat the cold heartless programs. Next week I will explore how.

1:40 PM GMT  |  Read comments(0)

May 31

What If Continued…

 

“…to da moon Alice!”

Ralph Kramden 

Last week the topic was creativity in your trading, specifically how entertaining a few “what if” scenarios can be of great help when holding a position. It prepares you for the inevitable surprises that markets bring, a framework from which to act when conditions change. Speaking of changing conditions, isn’t that inability to adapt why the system traders failed last year? When conditions changed the systems failed. Admittedly the changes were dramatic and there were numerous high frequency trading strategies that printed money in the unprecedented volatility. But the hedge funds were guilty of deploying strikingly similar strategies that proved costly to investors. What I found ironic were the well written mea culpas taking responsibility for the losses, saying in effect “there was a lot of blame to go around and we got caught in a perfect storm”. As though that it happened to a lot of players in the industry using similar trading strategies made the losses palatable. Try that on your clearing firm’s risk manager when he requests more margin. “Everybody was long and so I was too” won’t get you very far.

I’m reminded of the trader that stuck to his system even though his boss flat out warned him, “The Fed is going to cut rates today.”  It was the Tuesday morning following the Martin Luther King holiday last year and SPs were alternately limit down and trading on and off the limit. The tension in the markets was high. Knowing his trader was in a poor position he repeated his prediction. The Fed cut rates within minutes, the SPs rallied $45, and the trader suffered a huge loss. More importantly he lost confidence and the confidence of his boss.

Ironically I wrote the above prior to Friday afternoon’s last minute stock launching. Whatever the actual cause, and there doesn’t have to be one, it was one of those afternoons where the clues were evident. In the Trading To Win chat room boredom reigned. Among the few comments were, “SPs doing half the volume.”, and “It’s dead. It’s month end” and then David said at 3:57, “It’s not going through 915.75 is it?” He said it in a tone of mild disbelief that held out the clear possibility that on a thin Friday, the first “Friday of Summer”, 915.75 could indeed be breached. And breached it was – for another 12 dollars in less than 3 minutes.

You could make the case that it is easy to say in retrospect that the move was foreseeable. I would have to agree with that because no one could have predicted the magnitude of the move especially in the little time it took. But if you considered those clues and asked, “What if…” the scenario of an extraordinary move may have occurred to you early enough to escape a loss or even profit from it. Realistically the best one could have done was to get stopped out of longs. If however you rode shorts into that close and saw 927.75 print, the feeling was certainly not a warm and fuzzy one. Like the hedge fund managers above, you can take solace that a lot of traders probably got hurt on that final move on the final day of May 2009. But then tell me: How does that excuse benefit the discretionary trader?

4:36 PM GMT  |  Read comments(0)

May 25

Thinking Outside the Screen

 

I don't follow any system. All the laws you can lay down are only so many props to be cast aside when the hour of creation arrives.

-Raoul Dufy

Do you react with the same disdain as I do when someone uses the hackneyed phrase, “Think outside the box”? Does this cliché conjure wildly successful people minting their ability to create? Are you tired of hearing about Malcolm Gladwell and his apparent lock on this process?  Don’t be. My experience is a little creativity applied from time to time to discretionary trading might improve our results. And it can be done by asking one simple question: What if?

 

How many times has a stale trade turned into a loser? Sure, you can feel good about yourself because you had your stop in and it got hit. You can be proud of your discipline, that your system worked, and that you have lived to trade another day. But if you had paid attention to a signal or two outside your usual realm, or perhaps something as simple as listening to your gut could you have exited the trade profitably and, God forbid!, even reversed for the unexpected move?

 

For the moment let’s forget the phrase and examine what is behind it, namely the creative process. That is truly what has merit for us as discretionary traders. The time for “thinking outside the screen” is when we are re-examining the factors that led us to our present position and whether that position is still warranted. It is when we are comfortable or worse complacent that we should take note in case we are missing something brewing in the market. And how best to do that? To entertain a scenario that seems outlandish.

 

For example: Let’s say you are long the SP500 at 912.50. It’s 2pm Eastern time and the index is up 8 bucks on the day on good economic news released earlier in the day and it has been ranging between 812 and 814 for the last hour. Your objective is 918.50. It finally trades over 914. “Off to the races!” you say and your discomfort turns to satisfaction that you will see your objective met by day’s end if not sooner. At this moment of confirmation when your patience is rewarded and you relax ever so slightly, catch yourself and ask, What if? “What if it fails here and goes to 807?” In other words what can possibly happen that doesn’t fit your prediction. Entertain other unlikely scenarios too. Maybe your 18.50 objective is ridiculously cheap? If you do this you will be prepared. You will be flexible, unlikely to be caught flatfooted and miss a profitable trade.

 

Abandoning what works for you is not my suggestion here. As discretionary traders we owe it to ourselves to know what works and what does not. But nothing works always or indefinitely. So be flexible, and step for a moment outside your normal mode of reacting to the markets. You never know what you might create!

Hobbes

2:58 PM GMT  |  Read comments(0)

May 16

Man on Wire

 

“Being on a tightrope is living; everything else is waiting”       
Karl Wallenda          

 

Trading is like walking a tightrope. Each time we make a trade we are saying to ourselves and the world, this is what I think. I have done my homework, stuck my finger in my mouth and raised it to detect which way the wind is blowing and this decision I have made is my statement, wrong or right.  Either we get to the other end and take a bow, or fall to the ground. Our net is our capital and the return depends upon conditions too numerous to fully account. Is it windy or calm? Clear or cloudy? Is the noise we hear white noise we can filter or static we need to heed? The market’s signals are a cell conversation with gaps. And that is just the beginning of the variables we encounter as traders. Knowing what we know and aware that it’s just a portion of the knowledge we’d like have, do we look down when riding a position only to scurry back to the starting point, a scratched trade, or do we right ourselves, keeping out focal point locked in to the end, our trade a satisfying result or tolerable loss?

 

Have you seen the movie Man on Wire? It earned the Academy Award for Best Documentary Feature and while that is reason enough to see it, rent it because you want to be a successful trader. A tightrope walker of the greatest magnitude, to some he may be an imp, an ignominious French imp at that, but I saw a man of great courage. If you have not seen it, do so and watch carefully because you will see how he practices at ground level for the ultimate game. And he does so with what seems like a blithe disregard for his well being when in reality he knows he has fully prepared for the risk he is about to take. He is a trader putting himself at risk for a desired end. He is fully engaged and clearly loves what he is doing.

 

To that end, this blog will explore the numerous paths to be a successful trader – perhaps the brass ring of jobs in this imploding economy. If you are successful it promises complete independence and freedom from creditors. Who cares about a credit score when you can print money at will? But failure could put you at their mercy and back to a job where the time you put in dictates the marginal money you make. If I felt like leaving the trading pit early a friend used to say, “They don’t pay you by the hour.” But don’t be misled that successful trading and hard work are not correlated. The days of easy money with spreads as wide as Augusta National fairways are gone, giving way to high frequency automated trading where the money made is measure in pennies per trade. Pennies! Even Augusta has rough now!

 

So you ask, “Where does that leave the independent trader?” Undeterred if you ask me. To hell with the programmers and quants! Let them provide liquidity for our convictions. I want nothing more than to see hard working discretionary traders succeed and my goal is to resonate with each of you, not all the time but from time to time, so that you might read this and gain an insight, test a new idea or tweak an existing one, take some kernel of truth or inspiration from these musings to clearly and confidently refine you edge.

 

Hobbes

10:38 PM GMT  |  Read comments(0)