Note: Posts made during the week: the ideas are right on and they can apply and help in the near term... however as I am busy some of the grammar etc. often is not as refined... I have to allocate time resources and ideas are what are most important... the posts on the weekends often tend to be grammatically cleaner but of course cannot comment on intra-week action... just so you know... in this case I now had a chance to clean this post up a bit and add an idea that I had meant to include... it may help to read it again... up to you of course
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The Posts found on the 'Yellow Rose' come in many different flavors... just like roses come in many different colors.
Some posts deal with specific stocks. Others posts look at market dynamics overall. I have had many posts that have delved into understanding what is going on. I have always wanted to understand first before acting... it is my nature and my training to do so. Understanding the underlying nature of the bull market prevented me from throwing cash at the Bear market rally and then getting robbed... I say this only to demonstrate the power of understanding and thinking outside the box. When the market rallied in the fall I was seeking to understand why and how the market went up in the face of the fundamentals... so I read books (such as those recommended at the bottom right) and searched for answers everywhere I could find them. I found it in the concept of Dow Theory and the strong secondary corrections that often happen and go counter to the prevailing market. At some point I will probably compile a list of the posts that have helped me and perhaps my readers to understand several months ago that we we setting up for this awful return to the bear market...
Right now I want to cover another useful category of topics for investors: investing techniques. I have had several posts on this matter as well and will have more as I solidify my methods.
Let me first say that not all techniques work for everyone. Each person must build a system that works for them. That is the key though... having (building) a time-tested system. Individual investors often do not have a system. This can work in a strong bull market but in a market like this having no system is like being a weak antelope on the plains of the Serengeti... The predators (Bears in this case) will take your money from you with dripping lips and a satisfying snarl.
Some of the people that are reading this blog probably have been or are long NYX. I was at one time as well. I sympathize with those who have lost thousands or hundreds of thousands thus far on NYX. Without some basic rules and tactics investors in NYX and many other stocks were really set up for a painful fall when the market turned south. In the long run NYX may do very well. Regardless it has been undoubtedly painful thus far.
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So let's talk about RISK MANAGEMENT and STOPS.
Investing/trading with no risk management is like driving in a Corvette with no seltbeats. Victor Sperandeo (Methods of a Wall Street Master) wrote that in the beginning and middle of a bull market people should generally be investors. In the end of a bull market and during a bear market they should have a trading mentality. Guess what market we're in right now?
Trading means that before you get into a long or short position you should define exactly how much you are willing to lose and how much you expect to gain. If you had set a maximum loss of 15% on let's say NYX and only invested enough such that you would be ok with that loss if it occurred it would still hurt but it wouldn't be devastating. You learn from the lesson and try to improve your system... and you have cash and the proper mindset to prevent the corrosive effects that major losses can have on future investing and on your life... In this market I often like to calculate what I expect the upside target and downside risk to be (try to make it about 3:1 or better) and then either place physical stops or mental stops that are written down on paper and cannot be violated... When the stops are hit it hurts a bit but I look at my system, ask if anything could have been done better and try to improve upon it. For example, with ISRG I knew there was major support at 250 region. earnings were coming up, the stock had an analyst knock it down again, and over and over again the stock had gone up from 250 going into earnings. Looking at the charts the downside was 235, the upside about 300... so a position taken at 250 meant 50 up to 15 down... worth the risk unless the whole market collapsed.
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There are some other critical points:
1. It is always important to know which way the long, and even more importantly the intermediate (several months), trend is going. If the intermediate trend is up often stocks will go up even if news is bad and will go up like crazy if it is good. The opposite is true in a downward intermediate trend. We have been in a bear market long term trend since October. From March to May we were in a intermediate upward trend, counter to the long-term downward trend, and since May we have been in an intermediate downward trend. So right now we are in a downward long-term AND downward intermediate trend.
Does that sound like a good environment to be long stocks? The answer is: only if you are taking a very short-term view (earnings coming up, a catalyst, a market bounce, etc.), or if you are taking a very long-term view (years perhaps). That means that if you bought ISRG recently at 250 it would have been a very good idea to raise the stops (physical or mental) when it went up on at least some of the shares. We go against the strong trends in situation like this and I believe have to take what we get... The same would be true of someone going short in a strong bull market that is uptrending in the intermediate term. Right now a market rally for bears is like a pullback in a bull market- many view it as a buying (shorting) opportunity.
As always there may be some exceptions. The potash stocks, for example, are in such a strong upwards earning trend that in the not too distant future stocks almost have to follow. Many other commodities and underlying stocks are in the same boat. However, I still like to use my stops (I sold POT with a stop at 220)... and then look to get in as soon as possible again... because great companies in the sweet spot like POT and MOS will not stay down for long....
Edit- Wow did I learn my lesson on this one. Stocks are just pieces of paper so regardless of the fundamentals the charts come first as they tell of the entire market dynamics, such as de-leveraging and opinion, of which fundies are only one part. POT and MOS were the only stocks for which I broke the rules and it goes to show why we can never break the rules... This post is excellent but ignore the last line above! Every other stock has benefitted me by using these rules. Added rule is NO EXCEPTIONS.
2. RAISE YOUR STOPS when you are going against the intermediate trend. When a position turns positive the rule that is important is not to let a winner turn into a loser. I like to calculate what my cost basis is, including commission charges, and raise the original stop to at least that price. This means that you cannot lose. Imagine where you would be if every position that you had taken that had gone in your direction stayed a winner or at least never became a loser. You would only lose when the move went against you from the beginning and then the loss would be small and calculated.
That being said every technique has pluses and minuses. The minus here is that it is possible that the position will stop out for no gain or a small gain and then will shoot up without you. However, I have found that when I am going against an intermediate trend, especially when the long trend is in the same direction as the intermediate one, it usually pays off to preserve capital. So with ISRG if you got in at 250 I would personally recommend not letting this turn into a loser. Even further, if you have close to a 10% gain on the long side in a market like this why hold on through earnings when and take on bear risk when you can sell before earnings with a guaranteed gain? Of course… there is the possibility that they blow out earnings and you miss a rally but let’s face it in this market any poor news will overshadow even strong positive news… right now bears are afraid to short this puppy and buyers came in so… This is my way of doing things. My posts are never intended to try to tell you what to do. Take from this what you will and decide what works best…
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On a final note we have earnings season about to kick into full swing. We have an oversold market but one that without a catalyst has refused to break its intermediate trend. Are there still stocks out there that will go up either now or by the end of the year? For sure. Here is the approach I am taking right now... you have to decide what yours is of course but it is good to have some specific tactics...
1. Use this market as a learning experience and the ability to develop skills and a system. Unless you have an extensive risk management approach already in place this is a great market in which to build one for the future. This means trying things with limited cash, experimenting, seeing what works and what doesn't, etc. When everything is easy there is little incentive to really become the best we can. Cash does not go down and will be there when this market does rally in earnest. If you and I can navigate this market we will be ready for almost any market going forward.
I want to add one thing here as well: someone could just say that this market is easy if you were just shorting everything instead of going long. A short bias does make more sense than a long bias for stocks in an intermediate downtrend. However, as those who short the market in March found out... bears can be eaten just like the bulls... and I promise at some point being a bear will be just as dangerous as being a bull has been since the end of May for most stocks... the beauty of risk management is that it works for both sides of the market.
2. Have a trading mentality with a bias towards the intermediate trend. It makes sense to be short right now... but with stops because of the nature of the oversold market. Manage risk and determine objectives before entering a position.
3. Long-term bull markets- LOOK for them. These segments will recover the most and be the best bargains on sell-offs. The earnings will be there and ultimately the market always follows earnings. POT, ANR, MOS, alternative energy, etc... they will be there... that's why I do post on these stocks. Also look for best of breed within the bull markets. When MA, ISRG, POT, or GOOG etc. really sell off be aware of this and gauge it as an opportunity to gain position.
4. Set price alerts and look for opportunity. Every time DUG has gone to the mid 26s it has bounced back. POT at 200... ding ding ding. ISRG at 150... Look for patterns that repeat and set price alerts... this allows for high percentage trades and after all that is what trading is all about... putting the odds as much as you can in your favor...
5. Know your TA at least on a basic level. This market is influenced largely by computers.
6. I want to re-iterate: preserve your cash at the very least so that you can be the Buffett of the next bull market. Hopefully we can profit in this market quite nicely but at the very least it is important not to take huge losses. I don't know when the next bull market will be upon us but when it does come the people who still have cash, the people who were not shell shocked, and the people who built a trading foundation made of bricks rather than a "house of cards" will be the ones to reap the huge rewards that everyone else will be too destroyed, financially and emotionally, to take advantage of.
There are many others points that will be covered another time but the take-away message is that in markets like these most get burned, some get through (and are ready for the next bull market at the very least), and a select few end up with huge gains.
I'm hoping to do everything to try to move up the ranks. Hopefully you can too! Effective risk management is a very very important key to such success.
"The Yellow Rose Street Beat" is for informational purposes only. It does not give investment advice.
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