Did the recent sell-off catch you unaware?

Prior to this week’s sell-off the market had been moving within a range. However, when the Dow Jones index closed below the 800 level last week, a strong signal was given. A psychological support level was broken on the weekly charts. If you have a good look at the weekly chart, you’ll notice that even though the index had dropped below 8000 a couple of times, it always rebounded and never closed below it. The 7400 level on the daily chart is another significant level in that it represents a one year low. Statistically, if an instrument makes a new one year low it tends to continue the downward movement. If the market fails to hold this support level, there is a possibility that it would head towards the 7000 for support.

Take a look at the daily, weekly, and monthly charts.

Happy trading

Is Santa Claus Coming To Town?

The Thanksgiving and December rally happen frequently on the stock market. Even though the stock market trend this year has been a downward trend and stocks have fallen sharpen over the last few months, there was a strong rally during the Thanksgiving holiday week. Will the December rally also happen? No one can tell for sure. The saying “only death and taxes are certain” also applies to the stock market, in that it operates on probabilities and nothing is 100% certain.

Taking a close look at the daily Dow 30 index chart, one would conclude that the market is poised for an upside movement. However, because the weekly charts haven’t given an upside signal, any signals from the daily charts should be treated as short term. More evidence that there might be some upside movement is the Volatility Index (VIX). The daily VIX chart beginning to give signals of a downward movement, an indicator that the market is about to move up.

However, because we are in a bear market, we should consider any upside movement as short term or a pull back. In addition, to confirm the upside movement I would wait for Dow to take out the previous week’s high of 8827.

All the best.

The key reversal day?

On Thursday the market witnessed what is known as a “key reversal day”. An upside key reversal day occurs when the market opens below (or at) the previous day’s close, falls to take out the previous day’s low and then rebounds to close above the previous day’s high. This does not happen very often and is usually a strong signal that the market is about to reverse. A key reversal day is a signal, and the signal is not confirmed until the market (or stock) closes above the high of the key reversal day.

It also looks like the Dow is trying to find support at the 8000 level. Other markets are also trying to find support. If the markets manage to find support, then we should experience a rally, even if it is a short term one. On the other side, if the market breaks supports, i.e. closes below 8000, then there will be more downside pressure. It’s also good to note that we are heading towards the end of the year, and this is usually the time for the end-of-year rally. As you know, past performance is not necessary an indicator of future performance means the end-of-year rally is not 100% certain.

As we head towards the end of the year, it’s very likely there will be a lot of opportunities which we need to look out for. However we need to make sure that we wait for our indicators to confirm the movement and we should only act if the odds are in our favour.

All the best

Looks like there is some upside on the horizon

The markets took a massive hit during October. During the month the Dow fell by 1525 points, while the FTSE 100 fell by about 526 points, almost 11%. At one point the FTSE actually fell as low as 3750 before recovering some of the loss to close at 4377. Despite the massive selloff during October, the final week of the month produced the largest weekly rise so far this year. The FTSE 100 rose by almost 500 point, a 13% gain.

What’s next on the horizon?

The markets are currently oversold and it seems that there might be some upside movements. The daily charts are beginning to look bullish. Added to this is the fact that historically share prices tend to rise during the last 2 months of the year. The US election is also around the corner and the result of the election might have an impact on the stock market. The weekly charts are also showing some signs of recovery. The monthly charts are still showing a downward trend, so the upside movement should be considered short term, at least for now.

Take a look at the daily charts below.

All the best.

What is good for the goose is not necessarily good for the gander

I read somewhere that Ed Lampart is adding to his stake in auto parts retailer Autozone and buying shares heavily. For those who don’t know him, he is a billionaire hedge fund manager. A couple of weeks ago, Warren Buffett said in a leading US paper that it was time to buy. Does the fact that these 2 people are buying mean that it’s time for everyone to buy? In my point of view the answer is no. Don’t misunderstand what I’m trying to say. I’m not saying that these guys are wrong in their thinking. I’m not even qualified to say so as I have not made a fraction of the money they have made on the stock market. However, they have a peculiar style of investment and if you are going to follow their advice then you need to make sure that your style is similar to theirs.

Since Buffett made his announcement, the Dow index has fallen over 1000 points, some shares have fallen more than 20%. This is a big drop for a trader or investor that is only willing to hold onto a share provided it doesn’t drop more than 10 – 20 % from his entry point. This type of trade won’t be suitable for a short term investor.

You also have to think about risk management. Depending on the school of thought (or should I say risk) that you belong to, it’s been suggested that to survive as an trader (or even investor) you should not risk more than 5% of your capital on one single stock. Ed Lampart and Warren Buffett have billions at their disposal and can afford to buy shares now and hold onto them till the whole turbulence is over. They are concerned about a company’s fundamentals and won’t be moved by a 20 or 30% drop in the value of a share price. They know that share prices are heavily discounted at the moment and they are willing to hold onto the shares for as long as it takes. Just consider the following 2 quotes by Warren Buffett

“Our favourite holding period is forever.”

“I never attempt to make money on the stock market. I buy on the assumption that they could close the market the next day and not reopen it for five years.”

To round up, if you are not happy to hold onto the shares for a long time, don’t buy yet. If you are a technical analyst, wait for your charts to give you the signal. That might be tomorrow, next week or next month. Nobody know when.

Happy trading

Is the UK in a recession?

There is a lot of talk around the fact that the UK might be heading into a recession. The UK's Gross Domestic Product (GDP) which measures the output of the UK economy shrank 0.5% in the third quarter. This was a greater contraction than what economists had predicted. We still haven't had two consecutive quarters of economic contraction, so “technically” we are not yet in a recession.
However, government announcements are lagging indicators in determining whether we are in a recession or not. It is a lagging indicator in that the contraction had actually taken place before the announcement.
The stock market indexes are leading indicators when it comes to showing the health of an economy or whether an economy is in a recession. The stock market is “forward thinking” and the future health of the economy of a company is usually factored into the value. The stock market points to the fact that it is very likely we are already in a recession. However the good news is that share prices tend to rise during the second part of a recession. They fall during the months leading into a recession and the earlier part of a recession. Why do they rise during the second part of a recession? They rise because they economy would have started to expand (meaning business would be better) before the announcement is made by government.
Although I haven’t got any official figures to show how the UK stock market has performed during UK recessions, the table below shows the performance of the S&P during the last 5 US recessions.

Bear markets of the past 100 years

The table below shows the bear markets of the last 100 years. The worst so far was the September 1929 - July 1932 when the Dow lost 89%. In the current market the Dow has lost about 33% from it's recent peak at 14,000. This just illustrates that even though share prices have fallen a lot and shares are "cheap", there is still downside potential in the market.

Bloodbath on the Stock Market

September was a rollercoaster month in the major stock markets. Blood was shed, giants got slaughtered, fortunes were lost, and governments were forced to take emergency measures. The largest one day increase in more than a decade occurred in September, ironically, the largest one fall in more than a decade occurred within the same month. While the bulls received a whipping, the bears were smiling all the way to the bank, that is the banks that are still standing.

Personally, even though I knew from the charts the the market was heading down (check my post on the 4th of September http://diligenttrader.blogspot.com/2008/09/why-market-might-be-heading-for-another.html), I stood aside most of the month. This was mainly because volatility was high and it was a day trader's market. Also, there was a lot of suspense with regards to what would happen next, for instance, will the house pass the $700b bail-out bill, will the treasury inject money into the system etc. Most openings were either a gap up or a gap down and the market was driven by sentiment and news.

What does October hold. The daily charts are showing signs of recovery even though the monthly charts are still in a downtrend. I'll be looking at individual shares rather than the indices and look for buying and shorting opportunities. However, it has to be said that this is a market that should be treaded with care and good risk management is essential.









All the best.

Can AIG survive the turbulence?

The current market turmoil has claimed a number of high profile casualties. A lot of people will be wondering what’s going to happen next. Who’s going to be the next casualty? How many “patients” are waiting on the sidelines for their number to come up? I’m sure there are still a few more to go. There are still a lot of companies that are week both technically and fundamentally, and there are also a lot of companies that will have no option than to go under if they cannot get access to additional funding.

If Wall Street giants are finding it difficult to get access to funds, imagine what much more difficult if will get for the average person to gain access to loans.

The American Insurance Group (AIG) is another company that is currently struggling. Will AIG survive? The charts look ugly. It looks like time is running out for the insurance giant. However, miracles happen. Who knows what the future holds for AIG? It looks like there are still shorting opportunities on the stock, however, this is not one you would want to buy. Not now.

All the best.

How are the mighty fallen

No disrespect to the fallen investment banks, but I can’t help saying to myself, “how are the mighty fallen”. What happened to the big guys? How could the geniuses get it wrong? These are companies that wouldn’t employ graduates with less than a second class upper. You had to go to certain schools, or business schools to qualify working for them. A few months ago Bear Sterns had to be bailed out. Over the weekend Merrill Lynch was acquired by Bank of America, while Lehman Brothers filed for Bankruptcy. The unimaginable happened to these guys. These companies were casualties of the subprime mess and the subsequent credit crunch, however their greatest undoing was their irresponsible risk taking. I call it irresponsible because it was excessive and was fed by greed. Nemesis caught up. Goldman Sachs, one of the big investments banks that are still standing had a more conservative policy on risk. They might not have looked like the “shining stars” when other investments banks were taking on the big risk and declaring big profits and bonuses, but the fact that they are still standing, and that there are no doubts about their future is evidence that their responsible risk management is paying off.

The same applies to retail investors. Pigs get slaughtered. It is the one that manage risk properly that stay around for a long time. Time might be a time that we all have to review our risk management practises so we can ensure we stay around for a long time. It’s not the person that makes a £1000 pounds overnight that is the winner, but the person that makes smaller and steadier profits, accompanied with good risk management.

The attached charts show the decline of Merrill Lynch’s share price from $95 to just over $17 and Lehman’s from around $85 to $3.65 before it applied for bankruptcy.





Three down, will there any more?

All the best

£3.5bn a year lost to scams

I saw this in the paper today. I find it very amazing that people actually fall for scams like these. The paper suggests that around 3 million British people fall for theses scams each year. It’s likely that with the current credit crunch, the number of victims is likely to increase.

This report shows the desire of the average person to accumulate riches without working for it. It shows the greedy nature of human beings and how intelligent but scrupulous people take advantage of this weakness.

I guess the best way to reduce the number of victims for by educating people whenever we have the opportunity. That’s a job for everyone. You and me.

All the best

Is this a timely intervention by the government?

The stock market across the world rallied on Monday because the United States government bailed out 2 of the biggest mortgage lenders in the US. The bail out offered a relief to the investors across the world because if these 2 companies had been allowed to go under it would have had a devastating effect on the US and consequently the world economy.

The bail out came at a time that the bears were getting ready to push the market lower.

Remember I said the Dow will test the 11200 level and then try to test 11000. Well it tested and touched the 11200 level but pulled back around 11100. On Friday the Dow formed a hammer, giving indication that the market might reverse to the upside. At that point even the swing trader bears would know that all shorts on the Dow index are off, even if temporarily. Note that individual shares and sectors can paint a different picture as some shares rise when the overall market is falling and some fall when the overall market is rising.

My current stance on the Dow is that it is in a sideways range, it has to either break through resistance or below support to confirm the next up or down trend.

I’m not a fan of trading the index, I’ll rather trader movements in stocks mainly because I don’t sit in front of the computer screen all day and I haven’t got the stomach for large swings associated with index trading. Whatever you decide to trade or follow, remember to pay attention to the details.

All the best

Why the market might be heading for another fall..

The Dow index closed on Tuesday with a shooting star candlestick. A shooting star is usually an indication that the market (or an instrument) may have topped and is ready for a reversal. If you look at the Dow chart, you'll see that the index was unable to break through resistance at 11800. This level was a previous support before it became resistance, which makes the level something that a lot of technical traders would be looking out for. If you are currently long on any stock, now might be a good time to make sure that you have your stop losses in place and to protect any profits that you might have. It's most likely that the market would now test the 11200 level and then the 11000. If it should successfully break below 11000 then there might be another free fall in the market (notice that I said if) .

Keep your eyes on the charts.

Good luck

It’s a new month

A new month started yesterday. The new month gives another opportunity to start doing things write with regards to our trading. A disciplined trader doesn’t just trade for the kicks or excitement, but treats trading as a business. If you treat your trading as a business then you should keep records of all your trades. Records should include the reasons you took the trade, your entry point, your predetermined exit points, and also your profit and loss. At the end of each month you should be able to produce a summary of the trades you opened and closed during the month. If you haven’t been doing this, why don’t you try it in September and you’ll see how big a difference it will make in your results.


Looking forward, what does the month hold for the markets?

Rather than just add my comments/views on this, I’ll just post the charts and let everyone review and comment on it themselves. Note your comments on paper and you can review it later in the month to see whether you are right or wrong.

All the best

The US Dollar decided that enough is enough!!!

It caught a lot of people by surprise but the US dollar finally decided that it was not going to stay it. Over the last 18 months the dollar had been hitting new lows against most major currencies. The state of the US economy has not helped and the continuous rise in the prices of gold and petrol have added to the demise of the dollar. However, after consolidating for a while, the dollar found it’s feet and staged a fight back. The US dollar rally took a lot of people by surprise, but if you had followed the charts, you would have noticed that dollar had it a bottom in April and had been consolidating since then, a good signal for a potential breakout.

Going forward, the US dollar looks oversold on the daily chart, but on the monthly charts it looks like the rally is just about to commence. That means there might be a short term pull back, but the dollar still has more upside potential.

The charts show the movement of the US Dollar index which gives an indication of the strength of the US Dollar against some other major currencies. I'll talk about the US Dollar index in a future post.

Don't be a master of none

If you have a harem of 40 women, you never get to know any of them very well. – Warren Buffet

To be a successful stock trader/investor you have to limit the number of shares or instruments that you trade. You cannot seize opportunities if you are trying to trade everything that is available across all markets. This might be difficult to grasp if you are a private trader, especially when you want to take advantage of every move across the markets. In investment banks and asset management companies, traders and analyst specialise in particular sectors. This is because the professionals recognise the fact that you cannot be an expert in all sectors. It takes too much energy to focus on too much and the rewards are either little or non-existent. There’s a proverb that says “a jack of all trades, master of none”. You become a master of none when you fail to limit the shares or instruments you want to trade.

Limiting the number of instruments that you trade is very important for beginners. In most cases a beginner wants to be up and running, placing trades and making profit. However, to make and keep your profits you have to be selective in what you trade or invest in. Decide on what you want to focus on, study past patterns, try and identify patterns that repeat themselves, identify the trend, identify the next move etc.

If you’ve struggled to make a profit in the last month or struggle to hold onto your profits, why
don’t you give this a try? Create a watchlist of about 20 – 30 instruments. If you want to trade shares on the UK and US markets, select about 10 – 15 shares (including the major indices) from each market, add them into a spreadsheet and study the charts of each of them, making comments where appropriate. This exercise might take a while the first time you do it’ but subsequently should not take more than a hour per day. The best time to do this exercise is when the markets are closed.

I’ll cover more about how to place your orders in a later post.

All the best.

My top 5 favourite quotes on trading

I’d like to share my top 5 trading quotes. A lot of them relate to trading psychology as I am a big fan of psychology and believe that it’s a very important aspect of trading and if you don’t get it right, the odds are against you from the start. Here’s the list.

“Yet, I can see now that my main trouble was my failure to grasp the vital difference between stock gambling and stock speculation”. – Jesse Livermore

“I never buy anything unless I can fill out on a piece of paper my reasons. I may be wrong, but I would know the answer to that. “I’m paying $32 billion today for the Coca Cola Company because ...” If you can’t answer that question, you shouldn’t buy it. If you can answer that question, and you do it a few times, you’ll make a lot of money.” – Warren Buffet

“Any time you think you have the game conquered, the game will turn around and punch you right in the nose.” – Mike Schmidt

“Be patient, Be deliberate. Wait for the perfect setup. When you see it don’t hesitate. If it’s not happening, don’t take action”. - Entries & Exits

“A trader, in addition to studying basic conditions, remembering market precedents and keeping in mind the psychology of the outside public as well as the limitations of his brokers, must also know himself and provide against his own weaknesses.” – Jesse Livermore

As you read the quotes, I'd like you to meditate on them and see if they are relevant to your trading/investing.

Happy trading

Did Wall Street get drunk?

During a fun raising event on the 18th of July 2008, President Bush made a comment about Wall Street. President Bush in trying to explain the reason behind current global financial crisis said, ”There’s no question about it. Wall Street got drunk - that’s one of the reasons I asked you to turn off the TV cameras - it got drunk and now it’s got a hangover. The question is how long will it sober up and not try to do all these fancy financial instruments.” The presidents comment were captured on a video clip that was subsequently leaked on the Internet.

Did Wall Street get drunk? The word drunk immediately conveys a picture of alcohol consumption, so you have to delve deeper into the definition of drunk before agreeing or disagreeing with President Bush. I looked up the definition of drunk on dictionary.com and came up with 2 relevant definitions. 1) being in a temporary state in which one's physical and mental faculties are impaired by an excess of alcoholic drink; intoxicated: 2) overcome or dominated by a strong feeling or emotion: drunk with power; drunk with joy. Looking at the first definition, it’s not certain whether the powers that be on Wall Street had their mental faculties impaired by excess alcohol. However, they must have been dominated with a strong feeling of emotion. Yes they were dominated by the emotions of greed and power. In that sense, yes they were drunk!

The President’s comments were very lenient compared to the cover page of a November 2007 issue of Fortune magazine. (http://money.cnn.com/magazines/fortune/fortune_archive/2007/11/26/101232838/index.htm?postversion=2007111212), titled “What were they smoking?” I think they guys were on something a lot stronger than alcohol, as the effect their actions have spread across the globe.

Are you insane?

The intention of this article is not to insult anyone but to highlight one of the main reasons why people get mediocre results in trading.

Albert Einstein defined insanity as “doing the same thing over and over again and expecting different results”. It’s amazing how many people want a different result in various areas of their life but are not ready to make the change from within. People want to succeed but are not ready to put in the extra effort/sacrifice that it takes to succeed. One of the dictionary entries for insanity is “extreme foolishness”. i.e. something that is extremely foolish.

How does the theory of insanity apply to trading? According to research, more than 90% of traders loss money. The accuracy of this figure has not been established, however, it’s a fact that more traders lose than win. Most new traders get whipped out within their first year of trading. The reason most of these traders failed is not because of a lack of methodology, but because they failed to address certain habits or psychological issues that are detrimental to trading. For example, one of the ways of using MACD is to go long when the histogram crosses above midline. Some traders that use this method have a habit of buying just before MACD crosses the midline, and end up on the wrong side of the trade and loss money. They do this time after time and get the same result. A lot of people rather than change their approach would do the same thing over and over again and expect to get lucky. Although they might make a profit on a few occasions, it’s most likely they’ll lose overall. This is extreme insanity. Although according to Jesse Livermore, everyone makes a foolish play on the market, that’s temporary insanity, just like everyone has a few minutes of madness every day. It’s when making foolish plays becomes the norm in a trader’s activity that it becomes insanity.

According to Rob Gilbert "First we form habits, then they form us. Conquer your bad habits or they will conquer you". If you have gotten into the habit of making foolish plays (synonymous to gambling), please stop now before it destroys you. It’s not going to be easy to drop a bad habit, but believe me it’s possible. Don’t wait till the water runs dry before you commit to making the change. The market is a global place, traders come and traders go. If you compare trading to a career in the military, most traders end their careers as recruits, some make it through to captains, while only a few make it through generals. Those that make it through to the general grade are those that are able to demonstrate a high level of self-discipline. If you want to turn your trading around you need to identify the changes you need to make and have the discipline to implement the changes. Do it today as you might never get another chance.

10 Trading Principles

I’d like to share some trading principles. These 10 principles are the top 10 from a list of 50 principles that was compiled from a pamphlet printed 30 years ago entitled “How Young Millionaires Trade Commodities” and these principles still apply in today’s market. Whether you trade commodities, stocks, indices or forex, these principles apply.

1. Use money you can afford to lose - don't trade with money that will give you sleepless nights.
2. Know yourself – be disciplined, know your weaknesses, control your emotions.
3. Start small – try and master the mechanics first.
4. Don’t over commit - don't use all your margin. Apply good risk management.
5. Isolate your trading from your desire for profit – try to eliminate “hope” from your trading plan.
6. Don’t form new opinions during trading hours – do not let day to day fluctuations change your overall plan.
7. Take a trading break – trading everyday may cloud your judgement.
8. Don’t follow the crowd - follow the trend, the trend is your friend.
9. Block out other opinions – do not be influenced by others once you form an opinion.
10. When you are not sure, stand aside – it is ok to be in cash and not in the market.

In trading, if you adhere to the basic principles and apply diligence, profits will come.