Trading thoughts.....

As I look over the last few posts that I have made on this blog I am struck by the contradictions in the posts. As the title of this blog states, these are the "mental meanderings" of this poster. Since my interest in economics and markets is an attempt to make money for myself, perhaps for clarity's sake I should explain how I have learned to let the markets, equity markets in particular, give me money.
From the beginning about fifteen years ago, I was fascinated by the way prices move. Somewhere there, someone advised me to make my own charts. So I watched 20 min. delayed prices, reloading the pages every 2 minutes or 5 minutes and using graph paper, constructed charts. Mostly commodities at that time. It didn't take long before I began to develop "a feel" for the price action. At the same time that I was doing this I was reading everything I could find on trading. I came across an old book called "Reminiscenses of a Stock Operator", the story of Jesse Livermore. I loved the story, but it took many years before I really understood it.
My initial efforts at trading led to quick losses. I had started in the futures markets, so it is no surprise that I lost quickly. Being the stubborn sort, and not inclined to let those losses stand, I decided that if I had done the opposite trades I would have made money instead of losing. Those initial trades were the result of a Ken Roberts "course" in trading. A little reading later and I saw that I was trying to pick tops and bottoms using his methods. A low probability strategy. So my first lesson to be learned was, "the trend is your friend".
Since those initial efforts were chart oriented in nature, I began to study technical analysis. For the uninformed, technical analysis is the study of price movement and volume as an indicator of future price moves. At that time we were in the middle of the big bear markets in commodities. Later, I read a book on the Turtle Traders, who were traders that some wealthy individuals brought in "off the streets" and taught them to trade using trend following techniques. In that book they talked about how anyone could be a succesful trader if you followed rules strictly. Most of the turtle traders went on to become very successful. I noticed for many years later that I had a bias to the short side. As if I had been imprinted in my trading infancy to sell short in those long bear markets.
I read stuff by Curtis Arnold and Alex Elder on chart reading and the psychological aspects of the market that those patterns represented. I paid attention to my own emotions and how I felt about winning and losing. I was trading stocks by this time, having learned the disadvantages of the leverage in the futures markets. Also a big psychologic lesson. Trading too big makes a trader like a poker player who is sitting in on a high stakes poker game that he has never been in before. He is the scared money. Fear and apprehension makes for poor decisions. So I learned the value of money management. Keeping the bets small. Much harder to do than it sounds, particularly when you start to develop some skill at chart reading. You see a pattern start to unfold, price start to move like you anticipated, and you want to make alot of money quickly. You put on a big trade, and then it turns out that you are wrong. Not only are you wrong but you've got a big bet on. This leads to the temptation to let the bet ride, particularly as the losses mount. You tell yourself that you'll wait until the price moves in your favor and then you will close out the trade. But when the price then moves in your favor, you don't sell because you HOPE that you can be made whole. In the end the price moves against you so much that you take a big loss. This has the effect of making you afraid to trade. I remember taking those "big" losses in the gold market when I first started. I didn't even look at a gold chart for years. Same thing in stocks. Those big losses caused me to not look at those stocks and subsequently miss some big moves that later happened. So I began to learn money management. It was in "Reminiscenses" that I finally made sense of Livermores money management rules. He bought in 1/3's. Buy a one third position as the market starts to move the way you thought, wait for it to show you by the price and volume that it is a valid move, then buy another 1/3. Repeat this for the last 1/3. And then sit. By doing it this way, you are sure that you are trading with a trend. The price is continuing on a trend while you are putting on your full position. And when you finally have a full positon on, you have been making profits all along. I always keep my average price figured. Sometimes the trend will change and it is pretty easy to get out at break even. Sometimes the trend continues, and then the hard part is to let it continue. As the profits build, pullbacks happen and can cause alot of anguish about letting some paper profits get away. The hardest part about trading well is sitting tight on a profitable position. It is human nature to want to take a quick and easy profit. I still tend to take profits too early, but have gotten alot better over time. This leads to the second rule of good trading. "Cut your losses, and let your profits run". This can be done over any time frame. In other words, the markets act similar in price action whether I am thinking in a time frame of a single day or a year. In fact, when looking at a chart it is hard to tell the time frame of a chart if it is not written on the chart. Five minute bars will look the same as weekly bars.( Patterns will form on both. Or not. Sometimes there are no patterns discernable.) The point being that one can trade over a short time frame, or "invest" over a longer time frame using these same rules. And it really doesn't matter which markets either. Stocks, bonds, commodities. All they really are is money. That is what you are trading. Money.
Another hurdle I had to get over was worrying about all the money my broker was making off my trades. One of the common excuses I have heard others make is that they stick with a losing position because it will cost them a commission to get out. That is silly. Why let an adverse move in price cost you hundreds of dollars to avoid paying a $10 commission? I'll tell you why, because a trader hates to admit when he is wrong! And that same trader will not get back into that same stock when it starts going in the direction that he had initially thought it would if he took a previous loss. It is pride and ego. I found that I had to quit worrying about what someone might think if they knew how often I got in and out of a stock. Sometimes it takes a few trys to get a good position pricewise. In other words, I need that stock to be showing me a profit right away. If it doesn't, my timing must be wrong. Now of course you have to be adequately capitalized to be able to trade frequently. Commissions have to remain a very small percentage of the size of each trade. This is one of the psychological hurdles to starting in trading. Having a big enough account so that the commisions don't drive you to distraction.
The above paragraph also brings to mind another point. And that is that if you tell all of your friends what your bets are, you will dread them asking you how it turned out. If you dumped the position because it just wasn't "acting right", that is hard to explain to most people. And then a stock can make a big move, but you can find no high probability entry point. That is the point of technical analysis after all. To find those times when the odds of a price move are higher than other times. Sometimes you just shouldn't be in the market. But most lay people don't understand trading, so I have found that I am better off not talking about the trades I have on due to the internal conflicts that I cause myself. If I make predictions I lock myself into a mindset about the future. I can still have that mindset, but from a tactical point of view I have to let the market action dictate my bets. So I reserve the right to change my mind if the facts have changed. There are a couple of good rules in there also...."Neither a tip giver, nor a tip taker be".
Over the years when I have had periods of losses I have noticed that if I close out my positions and wait awhile I can usually come back and be profitable. There is nothing like being out of the markets to give some perspective on those markets. I am reminded of one of the "Market Wizard" interviews, when asked what his secret was, he threw the chart book on the floor and got up on the desk to look down at the chart. The point being, keep the "big picture" in mind. Always look at the big picture. Being out of the markets let me do that much better. I have tended to think of a herd of cattle. If I am in the middle of the herd it is very hard to tell which way we are all going.And if the herd panics I can get trampled quickly. But if I get outside the herd it is easy to see which way the herd is moving. Also to see how big the herd is, and to see hazards the herd may encounter. In trading, my best and quickest profits have come when I could be correct about when the herd was wrong. Either the herd has to buy to get right with the market, or they have to sell to get right. When a herd panics is best. Losses cause traders to act impulsively. It is those times that markets are not efficient... It is hard to be outside of the herd/market, but gives good perspective. The hard part is being patient and waiting for the right moment. Herds can move in the "wrong" direction for extended periods.
These are just some thoughts today. It is very possible to make consistent profits trading. I hope that some who may read this will find it helpful.

The indexes went up today.

The stock indexes went up today. They should have went down. When that happens I have to sit up and take notice. When something should go down, and doesn't, it usually means it is going up.
I trade. So when the facts change, I change my mind. No ego trips. That way I make money.
Gotta go watch the prez.

cheap oil

The news says the Saudi oil ministers are going to increase production of oil to bring the price down. While I have a hard time believing them, if the price of oil can decline for awhile, it will be like throwing gasoline on a fire, the economy could flare up. Cheap energy could be just the ticket to break loose all the money behind the dam. At this point in time cheap oil could be inflationary.....It won't STAY cheap, but we'll worry about that later. Like everything else...

One of my favorite songs

Here is what I'm sayin

Thanks Tyler Durden... 

is this the top?

O'kay, how do I put this?
Most  of the stock charts that I look at have had about two weeks of declines on increased volume, or they have made new highs on lower volume, or they have gone sideways on increased volume. These are all signs of "distribution". It usually mean that the large holders of stocks are taking advantage of the buying coming in, to sell.
I have been hearing for the last month or so that the "main street" is moving from bonds to  stocks. This means the little guys. Those who wait until it is safe to go back into stocks. It usually means that the last ones to buy are buying. After they buy, who is left to buy? Answer: no-one.
The above signs point to the signs of a top in the indexes.  If you invest your 401-k, or your 403b, you invest in funds that try to match the indexes. The signs that I see point to the big boys selling to you. After you buy, there is no-one left to buy from you.
The indexes have been going higher lately on lower volume. This is not good.
There are NO GUARANTEES, but all each of us can hope to do is put the odds in our favor over the long run. The odds are now not in favor of the indexes going appreciably higher.
There has been a "buy the dips" mentality lately. If that holds, the indexes may go higher. But, sooner or later it fails, because it is the strategy of the losers.
To those who are not educated about the markets: The odds of the stock indexes going much higher are getting worse.
If the indexes go sharply lower, will you be phychologically able to get out?
Or will you hope?
gh

Defending the dollar

The question from a strategic point of view is when does the U.S. start to defend the value of our currency. So far there has been what seems to be a concerted effort to make it weak. To judge by the actions of the governments in Euro-land they seem able to take the measures neccessary to keep the Euro afloat, "austerity", etc. Even if it causes some social unrest. We will have to do the same, eventually. When will that crisis come. I think it may come sooner than later.

Usually when a price touches a point three times, the price doesn't hold. Look at 22 on the above chart. That is the floor. If we fall through, we fall. I am sure that the Fed is cognizant of this price range. In any event, if we approach that area there will be a lot of pressure to defend the dollar.......Timing is everything.

Meanwhile, interest rates

Interest rates have been rising across the board lately. Short term as well as long term. The recent sudden rise in long term rates coincided with the U.S. Federal Reserve buying of long term U.S. Govt bonds. A move that was supposed to keep U.S. Govt borrowing costs down. Or so they said. However, if I was a MAJOR holder of long term USG debt, I would have considered it a excellent chance to unwind a large position. And that is what I think is happening. After all, what was supposed to happen to interest rates when the Fed stopped buying?
Some attribute the rise in rates to expectations of an improving economy. I suppose they are right. Some call the rise in rates an expectation for higher inflation. Same thing. And some call the rise in rates a decline in the willingness of bond holders to hold U.S. Govt debt for such low yields.(inflation?) Some cite the impending downgrade of U.S. Govt debt by the major ratings agencys.
A downgrade of a debt issuer implies doubt about the issuers ability to repay.What!!!??

Whatever the reason, interest rates are going up. Not a good thing for a debt-based economy that depends on asset values to sustain itself.
Not a good thing for a government deep in debt, whose debt maturity is 4-5 years in duration. ie, the huge borrowing over the last couple of years will come due in 2-3 years. More borrowing.
Not a good thing for taxpayers who don't want to pay taxes, but want their money to retain it's value.
Not a good thing for a stock market that looks ahead to the future.

But, meanwhile, back at the ranch:

Here is a chart of the Lehman 20yr Short ETF. It goes up when 20yr treasury yields go up. It is a good looking chart. A break above 40 could be the start of a sharp sustained move.



Here is the TLT, an ETF of the 20yr govt bond. Going down. It is either a bottom or a floor. If the floor gives way, down it goes.

Matt Simmons

Matthew Simmons passed away recently and his passing is missed by many. He has been an outspoken advocate of the need for conservation and the development of alternative sources of energy, and alternative lifestyles to avoid the serious disruption to society that a sudden energy shortage will bring.

The Great Debate, continued....?

The great debate lately, at least since the worlds recent financial debacle, is whether we are in for a period of inflation or deflation. There was certainly a short period of outright deflation as the prices of housing, stocks and commodities collapsed in 2009. Most of these prices have rebounded despite many questions about the vibrancy of western economys. There is a debate in some circles about the effect of energy availability on the outcome of this inflation/deflation debate. I believe, as many are coming to believe, that the days of plentiful and cheap oil are coming to an end. The "peak oil" phenomena as forcast by Hubbert 40 some years ago is probably upon us.In the nearer term it will not be about running out of oil so much as it will be the cost of oil. Think of the cost of oil not in dollars, but in how many barrels of oil it takes to get the oil out of the earth. In the early days of oil, the oil gushed up and was there for the taking. That easy oil is gone, and now the new discoveries are in deep water, or in polar regions where the cost of bringing energy to the market are much greater, ie., it takes alot more energy to produce the energy.
 Oil has been, in my view, the single greatest factor in the great rise of industrial production over the last 100 years. And the capital markets are the mechanism that allows society to distribute this energy and to use it. I think that early in the 20th century it became necessary to increase the supply of money to facilitate the distribution and use of this energy. (If you think of a static supply of money/credit then you can see that if someone has a highly useful commodity that can be widely marketed, if money is not created through credit, then soon the suppliers of the valuable product soon have all the money, and no money is left to buy further product.) Credit and lending is how money is created. Periodically the supply of credit gets ahead of the supply of oil/energy and inflation begins to be felt in an economy. This causes interest rates to rise, since moneylenders don't like to lend for less than the cost of inflation. So the economy contracts until the energy supply versus demand is balanced. A look back at the economic recessions and depressions of the last 100 years will lead to this conclusion, that they were the result of a demand/supply imbalance in the energy equation. Certainly in recent memory is the effect of the Arab oil embargo in the 1970's, and the rapid rise in oil prices in the early 2000's. Both of these events resulted in drastic economic slowdowns.
But what happens if/when the supply of cheap oil is constrained. The immediate effect is inflation. Energy costs more and since cheap energy is the basis for all industrial production, costs generally rise. However, this inflation is soon counterbalanced by higher interest rates. This is deflation.

Look at the graph at http://seattleoil.com/ . "Debt in the United States".

Notice the largest slice of that graph is the light green portion entitled "financial instruments".
This is how money has been created lately. By the expansion of derivitives of other credit products. This is the housing bubble and the securitization of credit. This is how the money was created over the last couple decades. And these derivitives were the result of a long period of low and declining interest rates and low inflation that resulted from low energy prices.
If oil is getting harder to bring to market then the credit markets will have to rein in demand, interest rates will have to rise, and these credit derivitives that were predicated on ever LOWER interest rates will have to disappear. Have you noticed the price of gas lately? If the basic input to an economy costs more, wealth must be diverted to pay for these increased costs. If money is any store of wealth more must be diverted to energy production. This is a slowdown. This is deflation. It may be temporarily disguised as inflation if the money is diluted, and the economy is artificially stimulated to consume even more energy, but ultimately an energy shortage is deflationary. Crash and burn. That is my cheery thought for today. Remember, timing is everthing.

Austerity vs. Inflation

With parts of Europe facing the prospect of government bankruptcy, there has been a move by the leaders of those countries to rein in govt. spending. This has caused riots in some cities, as those affected by increased costs of education, and reduced pension and retirement payments feel the pain. In this country there is talk of reducing govt. spending as well, and the recent changes in Congress has indicated that the American populace is generally in favor of reining in govt. spending here. Govt debt is what has caused the decline in the value of our currency for the last several decades. Since a decrease in the value of a currency results in higher prices, I surmise that the huge runup in the stock market over those same decades can be attributed to inflation. There is a lot of talk about the dangers of inflation lately. The price of energy, food, and general living expenses continues to rise. As of late the bond markets have been reacting to the specter of inflation by raising long term interest rates. This is putting a strain on the states in this country by raising the cost of money at the same time their tax revenues are down. There is in congress now a lack of will to do any more bailouts. This bodes ill for state and local governments. Pension funds are under attack. I wonder how Congress will react as states start to face bankruptcy. In the same way that the problems of Europe have caused a rise in interest rates there, our state troubles will cause the same here. How will our debt driven economy do as interest rates rise?
Watch the dollar. Over the long term, US Dollar prices have made a triple bottom recently. If we break through that bottom, there isn't much support below.Our Fed could be forced to defend the value of our dollar. That will be our "austerity".

Equity indexes continue "meltup".

Despite the continual stream of warnings of bad things to come, the stock indexes continue to march higher. I can only take that as a sign of strength. The trend is higher. I write this for any who may view this blog, but mostly for myself, as I have been fairly bearish for the last six weeks or so. To the detriment of my trading.....

"Life is change. Growth is optional. Choose wisely."

~ Karen Kaiser Clark

Thought for today

"Gold is the money of kings, silver is the money of gentlemen, barter is the money of peasants - but debt is the money of slaves."

Norm Franz, Money and Wealth in the New Millenium