Market Monkey

30th March

It's been a calmer and happier market over the last week.  In fact, Mr. Market's been a bit of a bore, offering just a solitary day trade which I terminated for a small loss.

At the moment, traders are cheered by the thought that the worst of the credit crisis is over.  That may be so, I don't know.  I do know that the US economy is in pretty crappy shape and that a recession is looking inevitable.  The market hasn't been dwelling on that of late, so consumed has it become by the whole credit issue.  My guess is that poor economic data will continue to trickle in over the following months and that the downturn will resume.  Besides, we're in a bear market - you've got to look upon any rallies as suspect.  Over the last few years, it's paid to buy the dips.  Now, it makes sense to sell the rallies and that's what I'm looking to do at present.

Where's a good place to get short?  Well, a glance at a Dow chart shows that there's obvious resistance at 12,750.  The market hit 12,620 this week and I was praying that we would gap up on Wednesday morning into the aforementioned resistance.  Unfortunately, we gapped down instead so I'll have to wait a little longer, it seems. 

Ironically, this week's losing trade was a long bet.  I've mentioned on a number of occasions that it pays to 'fade the gap', which is what I did on Wednesday morning, buying the Dow in early trade.  You can be bearish on the bigger picture but that doesn't mean that you can't be bullish on a shorter time frame.  Given my outlook, this trade was never going to last for more than a few hours.  Unfortunately, it didn't go my way.

Anyway, money managers analyse their performance on a quarterly basis so I thought I'd do the same in this week's column.  Three months into 2008 and all I have to show for my troubles is a few hundred quid.  If I wanted to delude myself, I could pretend that I've 'beaten the market' - that is, I'm up 1% while the Dow is down 5% and the Nasdaq's losses are in double-digits.  Unfortunately, that's bunkum.  After all, I'm as willing to go short as I am long and my trades tend to last days, not months or years.  If some guy buys a portfolio of stocks, holds them until the end of the year and ends up with a modest return that is nevertheless superior to the market's, he might deserve a little pat on the back.  If you're in and out of trades, on the other hand, from both the long and the short side, comparing yourself to a benchmark is a bit pointless.  A decent trader should be able to make good money in any market - a bull market, a bear market, a range-bound market. 

Besides, the market has offered real opportunities over the last few months.  It's been volatile without being unreadable.  Large intra-day swings have been good for day traders, while swing traders have had enough trending periods to make good money.  Of course, anyone who trades oil or gold or currencies should have had a pretty good time of late, what with the movements those instruments have seen.

I don't berate myself for sticking to stocks and indices, however.  Sure, a technical trader like myself should be able to trade anything that moves.  By the same token, there's an argument to be made that one should get to know the movements of what one trades rather than trying to spread one's net too wide.  Also, I'm much more up to date on the fundamentals that underpin equity movements.  Sure, I often mock the limitations of so-called fundamental analysis, but it helps to know certain things.  You should be able to make money trading a select number of instruments anyway. 

The fact that I haven't been banking coin over the last few months is disappointing but there's a thin line between mediocrity and success.  There's nothing worse than a trader protesting that he's been 'unlucky' but I do feel that the Gods have been against poor old Monkey recently.  I've made some damn fine market calls, for example, shorting the Dow as it topped out near the end of February.  The market cratered over the following weeks and, with lousy economic data and a worsening credit crunch freaking out all and sundry, I was almost alone in turning bullish just before the market turnaround.  That was a much more difficult call than my earlier bearish bet and one that I'm pretty chuffed with.  The fact that I didn't make a cent out of that long trade really sickens me - it could and should have been an absolute beauty. 

Last week's trading also contained more than a little misfortune.  There have also been a number of occasions where I just missed out on excellent entry points.  In fact, I missed out on one such entry last week, arriving at my computer an hour too late and missing a likely 400-500 point gain over the following days.  That's happened on a number of occasions. 

Of course, one could argue that that's a bit careless of me.  Still, I think my directional bias has been good of late and that I'll eventually reap the rewards if I keep my cool and cut out a few minor errors.  Furthermore, my trading has always tended to be in fits and starts.  It's not unusual for me to experience stalemate for an extended period of time before surging ahead in a brief spell.

Will the next few months see that surge?  I don't know.  I hope so.  I wrote in January that it was time to "kick some market butt".  I haven't done so but the market hasn't kicked mine either.  We're three rounds into a twelve round contest.  This fight is far from over.

Weekly gain/loss: -€126
Overall balance: €20,227

23rd March

Where do you start?  Unless you've been on another planet, you'll know that the market has been utterly bananas recently.  Completely loco.  Me, I haven't been able to get my head around some of the moves at all and have experienced a very frustrating week. 

It's been hard to keep up.  I ended last week's column on a mildly bullish note ("The Fed cuts rates next week and I'd favour the bull side until then").  By the time the column had gone to press, all had changed, changed utterly.  Unfortunately, a terrible beauty wasn't born, unless you were short Bear Stearns.  I was stunned by the rapidity of the collapse.  Management had been protesting all week that there wasn't a liquidity problem.  The markets thought otherwise but did anyone expect that a $2 buyout was on the cards?  Crikey, the stock was trading at $80 just a few weeks ago.  As news emerged that an agreement had been reached with JP Morgan to access liquidity as needed, the stock was hammered, losing almost half of its value in a single day.

Still, Bear closed the day at $30.  Doubtless, a few bottom fishers probably thought they were getting a bargain.  Can you imagine how they felt when news of a $2 "take-under" emerged on Monday?   Buy low, sell..uh, lower. 

Anyway, my bullish bias dissipated as the news came out.  This was ugly stuff.  The market was all over the place that Friday.  I missed a couple of decent entries because I just wasn't fast enough - we were moving hundreds of ticks in a matter of minutes.  Eventually, I got short late in the day.  It went my way from the beginning and I was aggressive in moving my stop to lock in my gains.  Unfortunately, I was a bit too aggressive, getting stopped out for a gain of €150 or so.  It wasn't bad for a five minute trade, but it could have been almost €400 within another five minutes or so. 

I became flat out bearish after hearing of Bear's $2 sale price.  The Dow opened 2% lower - I was expecting a much lower open - and actually gained in the early stages.  Personal circumstances dictated that I couldn't be at my computer later that day, but I reasoned that this was to be a multi-day swing trade anyway, so I shorted into the early rally, placing my stop 200 ticks away. 

Markets were closed by the time I got back to my computer.  I'd been stopped out for a €400 loss.  I was flummoxed.  The financial system looked to be headed into meltdown and yet traders went buying late in the day because the Fed was about to cut rates?  Even worse, I was nicely ahead in my position at one stage.  Were I at my screen, I'd have brought my stop to break-even then.

That irritated me, it really did.  My gain on Friday was smaller than it should have been and now I'd lost good money when I shouldn't have.

I was perplexed by the market resilience.  When I saw that the Dow was ahead by 300 points in early trade on Tuesday, that surprise turned to amazement.  Traders were cheering on better than expected earnings from Goldman Sachs and Lehman Brothers as well as looking forward to an expected 1% rate cut.  Of course, there's no point fighting the market, so I bided my time.  When news came out that the cut was a smaller than expected 0.75%, I got ready to pounce.   The market quickly dropped 100 points before rebounding back up within a minute.  My short entry was exquisite.  The market soon took out its low of the day.  I was up €300 or so and looking for more.  Of course, I underestimated the bulls, who came roaring back to stop me out for a small (€100) gain.  I was short again soon after - a mistake, as it was obvious by now that the bulls were in control, and I gave up my earlier gains and more besides.

My losses for the week were insignificant but I really should have been way ahead.  I'd allowed the negative newsflow to unduly influence me and my trading had become completely out of sync with the market.  As a result, I didn't trade on Wednesday, even though the Dow looked very shortable (50-day average just ahead).  That was a mistake - it dropped 300 points.  Easy money.

What next?  At the moment, quantitative analysis is suggesting that further upside is in store.  Given the fundamental backdrop, I find that hard to believe but you know what they say - trade what you see, not what you believe.  Of course, things are changing on a daily basis at the moment and the volatility isn't going to go away any time soon.  I'm hoping to make a lot of minor but profitable day trades and wait until a really obvious long or short play presents itself before gearing up for bigger profits. 

My minor tribulations aside, it's obvious that big money can be made - or lost - in this market.  Scott Smith, trader and technical analyst at briefing.com puts it well.  "I can't recall seeing a large cap stock (Lehman brothers) lose -50% of its value one day and then regain it the next day by +125%.  If this isn't convincing enough that volatility is at an extreme high (fear) and traders should be adhering to the strictest of money/risk management, then I don't know what is." 

Talking of potential losses, spare a thought for British billionaire Joseph Lewis, who bought into Bear Stearns last year and lost over $1 billion on his position.  Dangerous as this market is, it does offer real opportunity for nimble traders, from both the long and the short side.  But buy and hold?  Forget it, baby. 

Weekly gain/loss: -€350
Overall balance: €20,353

16th March

Who says you can't time the market?  A couple of weeks ago, old Monkey shorted the Dow just as it was topping.  As it proceeded to drop by 1,000 points, the doom and gloom mounted and Monkey went long on Monday.  The day before the market enjoyed its biggest one-day rise in five years.  Mega-bucks?  Not quite.  How, I've been asking myself, did I manage to be so bloody right on the market direction and yet make barely enough money to buy a sandwich (a fiver, to be specific)?

I'm not happy.  To explain how things got to this stage, let's backtrack a little and analyse why all the signs of a market bottom were in place before Ben Bernanke rode to the rescue with his $200 billion on Tuesday.

I've been bearish over the last few weeks and profited accordingly. I'd been looking for the Dow to challenge its bear market low of 11,600.  Unfortunately, my lowered stop order was hit (12,200) just a few days beforehand.  As a result, my satisfaction with last week's winning trade dissipated as I watched the market sink lower without me.  It was still a fine trade but it might have been even better.

Still, I wasn't going to cry about it, especially when I realised that an even better long opportunity was looming.  What caused the change of heart?  Firstly, I wouldn't call it a change of heart.  A fortnight ago, I wrote that "I might very well be a buyer this time next week - my analysis is short-term".  A fortnight ago, any competent market-timer could tell you that the short side was the place to be. Markets subsequently capitulated and the long side became increasingly attractive.

There were multiple reasons to be bullish.  For one thing, there was always a chance that buyers would emerge near the old market lows.  In itself though, that wasn't a reason to buy.  My old pal, Dr. Brett Steenbarger of www.traderfeed.blogspot.com, was pointing out "potential fissures on the bear side" that had him "ready to pounce if and when the bears are forced to cover their quite exposed backsides".  Steenbarger noted a number of important divergences.  A total of 246 NYSE stocks were trading at 52-week lows last week.  At the January lows, that number was over 700.  He also observed that, compard to January, there were noticably fewer new lows now "across all major exchanges and indexes". 

Also, just 14% of stocks were trading above their 50-day moving averages.  Oversold, but it was above the low reading of 8% recorded in January.  Steenbarger also uses an indicator that he developed himself that measures overbought and oversold markets.  Last week, this index was at a low point that "has typified recent bottoms in the stock market".  I don't want to get too technical about things - suffice to say, Steenbarger made numerous other astute observations, concluding that "for the first time in this bear market, we're seeing divergences in the data even amidst the selling pressure and bearish sentiment. That has me questioning the longer-term viability of the downside".

Like Steenbarger, Rob Hanna (www.quantifiableedges.blogspot.com) uses quantitative research.  Hanna has made reference in the past to his Capitulative Breadth Indicator (CBI - don't let the jargon put you off, I won't go into detail) that he uses to guage short-term market bottoms.  When a reading of 10 is recorded, Hanna looks to catch the falling knife, so to speak.  It's a rare event, occuring just seventeen times over the last thirteen years.  Every trade has been a winner.

I'll repeat that - every trade has been a winner.

Any catch?  On a few occasions of particular drama, the CBI was too early and big paper losses have resulted before the expected reversal ensued.  Accordingly, Hanna advises that you gradually scale into the trade.  These bottom-fishing trades are not for the faint of heart.  It was time to take a deep breath and, like Macbeth, screw my courage to the sticking-place.

It was a weird trade.  I took a small position on Monday even though I expected further downside in the coming hours.  I planned on buying again once the Dow had sank by 150 points and again at successively lower intervals.  As a result, I was praying that the market would go down, even though I was long.  Go figure.  Anyway, my second limit order came within a couple of ticks of being filled before the market bounced slightly.  I raised my order.  Again, it came within a few ticks of being filled before reversing.  Damnit.

Next morning came news that the Fed was pumping $200 billion into the financial markets.  I was sickened.  The markets were going bananas but my position was a tiny one.  I was prepared to take a lot of heat on this trade in order to yield thousands in profit.  I had expected a few more days of downside whereby I would build the position up.  It wasn't going to happen.  A few hundred euro beckoned - small beer.

Even that was denied me.  The markets gave up some gains in early trade - the action was surprisingly ugly - and Barry Ritholtz (www.thebigpicture.typepad.com) advised traders to "watch this rally towards the end of the day. If it fades, it will be time to get crazy short".  A meaningless statement that, for some reason, stuck in my head.  I brought my stop up to breakeven.  It was hit and the market immediately reversed upwards, gaining another 300 points.  I sold at the very low of the day.

If I hadn't been so irritated, I'd have used the dip to add to my position.  I'd been unlucky.  Dwelling on that bad luck and cursing lost gains, I ceased to think. 

Still, live and learn.  There will be other opportunities in the coming weeks.  Right now, I'm looking to buy on any pullback.  The Fed cuts rates next week and I'd favour the bull side until then.

Now, where's that sandwich?

Weekly gain/loss: +€5
Overall balance: €20,703

9th March

My account has been in the red since the beginning of this year so I'm pretty pleased to have easily surmounted the €20,000 level this week. In fact, I briefly went beyond the €21,000 level and was gearing up for some spectacular profits on my Dow short. Unfortunately, my hopes of some good old-fashioned market blood-letting were dashed as the bulls finally made a match of things on Tuesday, stopping me out late in the day.

Let's go back a little though. It's always nice to analyse a winning trade in some detail.

Sometimes, you make money on a bad trade and lose money on a good trade. Take wheat, for example. The price has been going bananas recently (a 50% rise between its January low and its February high). I'm sure there have been plenty dumb newbies who've said, 'Gee whiz, it's going to the moon' and jumped in willy-nilly without ever putting a thought as to where their stop should be. That's not to say they didn't make a bucket-load of dosh - you can act foolishly and get away with it, at least on occasions. Try it too often and you'll get caught out (the more naive wheat bulls may have discovered that lesson already, with the price of wheat pulling back by almost 30% in a matter of days).

In other words, the fact that old Monkey made €1300 on a Dow short, in itself, says nothing. The real question is, how was the trade handled? To be honest, almost perfectly. From start to finish. Pardon my self-satisfied tone, but this really was a beauty.

Take last week's entry (around 12,680, where multiple sources of overhead price resistance lay). I could have forced an entry at 12,500 or so but I waited until the odds were really in my favour. Last week's column outlined multiple reasons why the Dow was shortable - this was as logical an entry as you could wish for. Secondly, I took the trade on a day of noticable intra-day strength. It's all too easy to step out of the way when price is showing such momentum and I guessed that I'd be underwater for the first few hours, but I kept my eye on the bigger picture. Thirdly (I'm not counting the steps any more - there are too many stages to this trade), I stayed cool as price initially went against me - it peaked at 12,760. After a couple of days, I was in profit but I didn't move my stop to breakeven until it had advanced a sufficient degree. On the Friday of the previous week, the Dow opened sharply lower (around 12,480). Instead of taking profits, I waited...and waited. The action was ugly - there was no reason to sell, I reminded myself, even for a partial. Eventually, with the Dow sinking towards 12,300, I took some profits (1/3 of the position). Sweet, Monkeyboy, sweet.

After that, I lowered my stop once more, putting it just above Friday's high. Nice profits were guaranteed but I was giving it enough room to move around a bit.

Monday's action was choppy. Eventually, I reduced my stop to just above 12,300. The market took out the morning high (12,270), triggering the usual bout of stops, but not Monkey's - it peaked short of 12,300.

Tuesday's action, however, was filthy. It all started swimmingly, with more downside allowing me to place my stop another 100 points lower. With just a couple of hours left in the session, the Dow was hovering just above 12,000. It had taken out the February lows and I was looking for a move down to the January lows (11,600) in the following days. This could be megabucks, I thought. Unfortunately, the "umpteenth report that an Ambac Financial bailout deal was near" (briefing.com) saw take-off in the final hour, stopping me out in the process.

That was that. It was as unemotional and machine-like a trade that you could wish for. Plan the trade, trade the plan.

I've been thinking a lot recently about scaling out of a profitable trade verses letting it run whilst lowering your stops. The former is psychologically more pleasing but the latter allows for the possibility of massive profits. I'm happy that I took the latter option instead of guessing a bottom - the January lows may be intact but it was wise to give the trade a real chance.

Wednesday saw me take another short entry. It was a day trade that I was hoping might evolve into a swing trade. It went my way initially but there was no follow-through and my lowered stop was eventually hit for a tiny loss.

Talking of day trades, my only mistake this week was in not making more of them. Some excellent shorting opportunities arose only I was too focused on my existing position, only noticing the entries when it was too late. Sloppy.

Still, I'm happy with my performance of late. I'm up almost two grand over the last few weeks and have made some fine trades in the process. There's been a discussion on my blog recently as to whether I've been too cautious in my approach, with one poster saying that I needed "to start pulling the rabbits out" if I wanted to reach my 100k goal. No offence to the poster, but you just can't approach the markets that way. You'll be killed. I've said it on countless occasions - never, never think of the money. Focus on the trade. Make good trades and the money will flow. Focus on the money and your blood will flow.

Anyway, as Eamon Dunphy would say, it's been a good week - a very good week - if not a great week. If I keep the head and take my chances, I'll have plenty more good weeks and a few great ones too. Onwards and upwards.

Weekly gain/loss: +€1212
Overall balance: €20,698

2nd March

I've often said that trading market news is no easy task.  Take this week.  The dollar hits new record lows against the Euro.  Gold hits new price highs and is heading towards $1000.  Oil surmounts the $100 level.  US January home sales decline even more than already pessimistic economists were predicting.  January durable goods shows a steeper drop than previously feared.  Inflation concerns are stoked by the latest data from the Producer Price Index.  Consumer confidence levels drop more than expected.  Mortgage provider Fannie Mae announces losses of over $2 billion for 2007.  Lousy results are announced by a slew of retailers.  Fed Chairman Ben Bernanke warns of sluggish growth and a worsening economy.

What happens?  Market rallies, with the Dow climbing almost 700 points over the last week or so.

Is the above a biased account from a subjective short?  Yes, I'm short and sure,  I admit there was some good news too.  The rally started after news emerged of a possible bailout plan for a major bond insurer.  Monday saw further strength after more good news on that front "helped mitigate some of the worst fears" and "creates a sense that things are headed in the right direction", to quote from briefing.com. IBM played its part by announcing a $12 billion buyback on Tuesday.  As for the poor retail data and the likes, I'm sure bulls will tell me that it was already reflected in prices and that even the awful economic reports make bigger interest rate cuts more likely.

Still, most news sources used the word "despite" when recounting market strength this week.  A neutral observer would be puzzled by a market rally in the face of such headwinds.

Anyway, I'm not saying markets 'should' be lower.  The market will do whatever it's going to do - I'm not going to join the legion of unprofitable whiners who protest that Mr. Market is off his trolley. All traders should respect the market and honour their stops rather than crying that they are 'right'.  I'm simply saying that anyone who trades on news or fundamentals alone is asking for trouble.

So why am I short?  A number of damn good reasons actually. Firstly, markets are overbought while still in a long-term downtrend - that just calls out for a short position.  Secondly, obvious technical resistance is nearby, with the Dow at its 50-day average and just below the January high. 

That's not all.  Some technical trader friends pointed out to me that markets broke out of a triangle pattern this week (don't worry if you don't understand, it's not that important).  People automatically think such things are bullish, mainly because some technical manual told them so.  But is it?  Quantitative trader and writer Rob Hanna (www.quantifiableedges.blogspot.com) back-tested these triangle breakouts and found that 70% of them failed to follow through and that "historically, fading these surges has provided a decent edge".  Another such study from Hanna has also suggested that near-term downside is more likely.

I've referred many times in this column to Brett Steenbarger's excellent blog at www.traderfeed.blogspot.com.  Anyone who likes Steenbarger's evidence-based analysis should also like Hanna's blog - it's new and well worth seeking out. 

Talking of Steenbarger, what's the Doc saying?  His analysis has also had a bearish tilt to it of late.  It's much too complex to go into here but he appears to be preparing for a pullback.

Did I mention the Nasdaq?  It's been badly lagging the S&P and the Dow of late.  Is that relevant?  Apparently, with Hanna's analysis showing that the market "tends to perform better when the appetite for Nasdaq stocks is greater than the appetite for NYSE stocks", no surprise considering "investors willingness to speculate more aggressively when their outlook is positive".  He concludes by saying that "if the Nasdaq could begin to assert a leadership role, that could help the current rally attempt greatly. If not, bulls better hope it's different this time."

In the face of all that, it would take a mighty fundamental case for me to turn bullish in the near-term.  I don't see that.  Yes, there are some reasons to be bullish.  Yes, the market has shown impressive strength on an intra-day basis this week.  Still, the odds appear to be with the bears at this particular juncture, at least for now (I might very well be a buyer this time next week - my analysis is short-term). Everyone gets bullish when the market rises three or four days in a row and bearish when the opposite occurs.  Facts show, however, that it should be the other way around. 

Earlier in the week, ironically, I was long.  Still, it was just a 30 minute day-trade late on Monday.  A range breakout trade, it went my way initially before stalling out near the day's high.  I was hoping for some late-day momentum to carry it much further.  Instead, I had to settle for a measly €100 profit - not what I was looking for.

As for my swing position, I went short on Tuesday as the Dow approached its 50-day average.  Within an hour or so, I was down a few hundred but it never came near my stop.  Wednesday was a choppy day, with the trade veering from profit to loss without ever looking like going anywhere decisive.  As a result, my stop is unchanged (a max loss of just over €500).  I only ever relax in a trade when a position has gone sufficiently far in my favour to allow me to move the stop to breakeven.  Hopefully, that will come sooner rather than later.  If it doesn't, and the Dow works off its overbought status by consolidating for a few days, I might look to close the position.  At the moment, however, I'm still looking for the market to retreat back to the heart of its multi-day range, hopefully yielding a grand or so from this trade.

Weekly gain/loss: +€150
Overall balance: €19,486