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Is Daytrading For You? Ned Gandevani, MBA
The following article is written with the intent of highlighting what I consider to be important elements specific to daytrading. The eight points which I expand upon give an overview of the daytrading process and its requirements, to aid you in deciding whether daytrading as a profession is right for you or not.
1. Markets -- The first and foremost consideration for daytrading is market selection. Not all futures markets provide an opportunity for daytrading. Markets with low intraday volatility do not generate enough price movement to justify commission costs and potential profits. A daytrader needs to seek markets with high intraday price volatility and change. Based on previous research of market volatility the financial markets such as the S&P 500, Treasury Bonds and Currencies present best vehicles for daytrading.
When discussing volatility, we need to consider a few different concepts carefully. Without getting bogged down with too many technicalities, I call your attention to the following: Volatility refers to the rate of change on an intraday or daily basis. As a daytrader, your interest lies in which market offers the widest price swings in a day. The following example demonstrates how high levels of volatility can also be a "two-edged sword."
The S&P 500 futures market on average moves between 16 to 25 points per day. This is based on research of S&P daily price ranges from 1994 to 1997. The data shows us that if we have the right methodology and systematic approach, we can certainly make a considerable amount of money in this particular arena. However, the very same market is also capable of exhibiting wild, extreme and violent intraday swings.
As an example, examine small time frame bar charts (1 through 5-minute) and observe how much price can change in so little time. Three point moves ($750) can be found on 3-minute bars at times -- which is great for profit, but must also be
viewed as potential risk. This volatility translates into the fact that we are capable of losing $750 to $1250 in minutes - which is way too risky for my equity capital. In short, we must learn to distinguish and clarify what we mean by acceptable volatility. Gauging volatility in a market helps us to maximize our profit potential and minimize our risk.
Based on research, markets like the S&P 500, Bonds and Currencies offer the best conditions for daytrading with regards to volatility, liquidity and access. Of the three groups, the S&Ps have gained the reputation and recognition as being a true daytraders market. It is composed of approximately 85% daytraders and 15% position traders. The following points discuss the distinct differences between day and position trading.
2. Technical vs. Fundamental -- Daytraders rely heavily upon technical indicators - as a contrast to the position trader who makes use of fundamental leading indicators. Tricks of the trade for daytraders include specific chart formations, intraday support and resistance points as well as opening and closing prices of the day. For the position trader however, intraday activity of a market has less significance than overall market activity and direction. The daytrader is more of a Technician -- while his counterpart, the position trader is more like a Fundamentalist.
The daytrader may choose to utilize a variety of technical indicators for the decision process of entering and exiting trades. There are over 100 indicators available for all the charting programs marketed. The intention of these lagging indicators is to help you determine whether a market is in a trend or about to reverse its direction. There are two types of indicators available: Static and Dynamic (also referred to as Adaptive). Static indicators have a fixed input for the variable and its settings are based upon the notion that the market will repeat its past price history and movement identically and repeatedly.
Adaptive indicators attempt to take into account new market conditions and make corresponding changes to input values accordingly. Overall, a typical daytrader relies upon his/her selected indicators for trading decisions -- which therefore implies that they reject the Efficient Market Hypothesis and its implication of the Random Walk Theory. (We will expand upon these concepts in future articles.)
3. Profit Target -- Its very unlikely that one will make a "killing" on any particular intraday trade. Daytraders look for relatively smaller profits and fewer losses. Position traders on the other hand, get in and out of many trades, with the hopes of eventually getting in on a meaningful and sustained trend. This means more losses of small value with a lower percentage of winning trades overall - but significant profits on winning trades to offset the costs of "finding" the best entry point. Overall, the mathematics for each of these trading styles are quite different. When you evaluate a daytrader or daytrading methodology, you need to see a higher percentage of winning trades with relatively small losses. The position trader will typically have a higher frequency of losers that are small, but much larger profits on winning trades.
4. Capital -- The capital required for daytrading is substantially less than for position trading. For every contract you take on as a position trader, you need to post margin in your account, as required by the exchanges. Trading the same market and assuming the same strategy on an intraday day trade will typically require much less capital for margin.
For example, a position trader needs to have a minimum of $12,600 per contract to trade the S&P with overnight positions. The daytrader is able to post half that amount (and sometimes even less) for his intraday trades. This means that as a daytrader, you are able to more effectively utilize your capital than the position trader since your equity can work in more trades at the same time, bringing increased profits to the successful trader.
5. Time Required -- Daytrading requires more time and attention than position trading. You need to monitor your trades constantly until all positions are closed out. Position trading requires much less time and day -- today attention. With proper money management, long term traders can leave their positions unattended for days or even weeks. By contrast, in daytrading you will need to watch, evaluate, adjust and change your positions many times during the day. The very nature of daytrading and its associated conditions and intensity will preclude the majority of investors from being able to participate due to their regular jobs and commitments.
Although some commercially available systems and tutors boast the ability to day trade markets with little to no intraday monitoring, they should be viewed with caution and suspicion due to the nature and character of the markets. Daytrading is a full time profession and must be treated as such if you want to succeed. Ask yourself the following when you consider the possibility of daytrading for a career: can you make enough profit after commission costs, data feed costs, program/educational costs to justify your new endeavor as a trader? Does the potential profit justify your time? The decision to day trade full time requires serious consideration before committing yourself. Daytrading is a career and occupation - not a hobby or amusement.
6. Commission Costs -- It will cost you more in commissions daytrading than in position trading. In daytrading, you might have to enter and exit positions a few times in a given day, whereas with position trading you enter and exit trades with much less frequency. You therefore need to look at the cost of "doing business" when evaluating a trading methodology and system. There are many ways to reduce the commission costs incurred when daytrading. These include but are not limited to: Online trading via the Internet, Discount trading and negotiating with potential brokers when shopping around for a suitable candidate.
As a daytrader, you need to get quick and accurate fills. Brokers and their respective clearing firms (FCMs) usually specialize in a few markets, so be sure to select a firm that will cater to your needs. There is no sense in trying to trade the S&Ps successfully through a firm that specializes in agricultural products. Deal with a firm that will be well suited to the trade execution requirements a daytrader has. Try to shop around and get floor access - real floor access, as opposed to a trade desk situated somewhere on the floor that cant even "arb" in your trades with a hand signal during fast market conditions. Some may argue the quality of fills may not be a crucial factor in the overall success of a trading methodology. I agree - but it helps a lot in the long run and makes your trading seem easier.
7. Equipment Requirements -- In daytrading, active participation in the trading process requires a real-time data feed and charting program. The cost of these essential components can be quite substantial. In position trading, you dont need access to real-time data -- and in some cases delayed data is even unnecessary. You may be able to obtain your information from one of the financial newspapers like the Wall Street Journal or Investors Business Daily.
When considering which of the real-time data vendors to chose as your source, do your homework and shop around for the fastest, most reliable and affordable. Depending on which market you trade, you might be able to access your data through the Internet at a cheaper price than the satellite or cable alternatives. Be sure to check for compatibility between your data vendor and the charting program you choose. There are a wide variety of charting programs available to daytraders and their cost will correspond to their sophistication. Some of the real-time vendors even provide you with their own "in-house" charting program. Regardless of developer, they all have a multitude of STATIC indicators to choose from.
8. Personality -- More important than anything else mentioned above, the personality of the trader plays an important and crucial role in successful trading. You need to have a deep and insightful understanding of your character and personality traits. Is your makeup best suited to position or daytrading? Are you even suited to be a trader at all? The reality of the trading world is that you dont just trade the market -- you trade yourself in the market. If you dont know yourself well enough to identify your strengths and weaknesses, trading will assist you - but at an expensive price. It would therefore make sense to try a few of the popular personality tests to identify and become more conscious about your strong and weak points.
We all have positive and not-so-positive traits in our personalities. Like everything else in life, the key to success is building on our strengths -- not fighting against who we are by trying to change our undesired traits. For example, if fast decision making is problematic for you, then you should consider position trading to be more suitable that daytrading. Or if youre a great procrastinator, you must make sure that your entry order is accompanied by a protective stop loss order, to ensure that a losing trade is not compounded by your natural reluctance to "put off" the proper decision. This is a personality trait that can run you out of trading -- and your equity -- very quickly.
You might also find out (possibly through one of the personality tests if you are currently unaware) that you are the type of person who constantly strives to be the best and most perfect at your trading. Lets label this type of person as the Perfectionist. This type of trait can cause a lot of problems and big losses for a trader.
The Perfectionist tries extra hard to not have any losing trades. Unfortunately for him, this only means more disastrous losses. Multiple consecutive losing trades handicap the Perfectionist from taking the next trade because hes now gun shy and scared to pull the trigger again. The result - more lost opportunities.
A crucial factor in being a successful trader is to recognize and believe with your heart that trading is a game of probabilities. Sometimes you win and sometimes you lose. You can separate yourself from the losers by formulating a trading plan that helps you reduce losses while maximizing gains. Proper stop loss placement and optimal management of winning trades are keys to winning at the probabilities game.
Most of the time we tend to forget that we make our decisions with our emotions and then justify with our logic. The assumption of rational investors in the Efficient Market Hypothesis couldnt be further from the Truth. On the contrary, when it comes to trading we all become quite irrational. In behavioral finance, the notion of the irrational investor is the norm.
In trading, more than anything else in life, we rely heavily on our emotions, either through unrealistic and ultra-optimistic profit and fortune goals - or pessimistic and hopeless expectations based on our previous experiences. Rather than thinking in the Present, we often think in the Past (with our past experience associations) or in the Future (with a desirable and idealistic outcome perception). To remain focused in the Present and judge our trade as it unfolds Now, requires practice. But more important than practice, you must know who you are and understand your personality first.
Trading is like a clear mirror that reflects our inner personality and character. It is not only capable of bringing us great financial rewards -- it can also help us to know ourselves better. This benefit can greatly contribute towards our evolution as better individuals and human beings. This is one of the most important reasons I have cultivated a love for trading. It is the ultimate endeavor for a free and beautiful life.
For the past few years, I have developed my own non-mechanical trading methodology, The Winning Edge S&P System. This system is the resulting product of research for my doctorate degree in International Finance. If you are interested, you may be eligible to receive a free one week trial. I only teach the System to qualified S&P daytraders selected by myself. Please - no brokers or CTAs. For details, please contact me at 516-423-8402 or e-mail at Gandevani@worldnet.att.net
S&P Trading Tips - Dr. Paul E. Diehl
I really enjoy getting CTCN and read and study every issue. I hope that you can continue in spite of the bureaucracy. I have been trading for over 20 years using both full service and discount brokers. I have purchased your Real Success Videos and found them useful, although I do not trade the system exactly the way it is presented. This is what I believe that I have learned in the 20-years that I spent in the school of hard knocks.
1. Specialize -- I stick with the S&P 500. Plenty of action, good liquidity, lots of technical data to support decisions. I read about traders all the time that follow 8 or 10 markets. I just can't do that and I don't know many people that can. Maybe that's one reason why there are 85% losers.
2. Live Data Feed -- For years I tried to trade based on frequent phone calls to a broker (this was before CNBC). I finally broke loose and bought a Quotrek (hand held portable data receiver). Now I can get S&P and other prices almost as soon as the floor does. (10 to 20 seconds lag) Even with the new S&P size you can lose a lot of money if you aren't right up to date.
3. Be Independent -- Don't let anyone else do this for you. I lost $20,000 while on a seven-day cruise ship holiday, because I was holding several S&P contracts and had told the broker to get me out in if the market went against us. This was 12 years ago and I was really green.
4. Use Mental Stops -- I broke this rule recently. I was short the S&P at 1119.30 and it dropped to 1117.50. l was really busy so I told the broker to place a stop where we would not let a profit turn to a loss. He was too busy to use a mental stop so he placed one with the exchange at 1119.20. The market ran to 1119.50 10-minutes later and then made a low later in the day at 1105.40. I would never have sold with a mental stop because the trip was so fast you wouldn't have finished dialing the phone before seeing the market back down to 1118.50. Mark it down. They will gun your stops if you give them the chance.
5. K.I.S.S. (Keep It Simple Stupid) -- Bill Oliver pointed this out in CTCN sometime ago and I agree 100%. I believe that each trader has to develop his own system based on his own personality. You have to know yourself. I day trade, but some people would rather hold overnight and take a longer time frame with wider (mental) stops.
6. Keep Working - - This is not a lazy man's game. You have to crunch the numbers every day. I hand draw my charts from the Quotrek data even though my broker faxes me a computer chart two to four times a day. I get a much better feel with my hand drawn charts than I do sitting in front of my PC screen. Bill Oliver also mentioned this. This is another reason why I follow only one market.
7. Be Flexible -- The S&P market of today is totally different from the 80's market or even the early 90's. The average daily range is now 10 to 15 points where is used to be 5 to 10. Bull markets are different from bears and choppy (digestion phases) are different still. The bear can take away in one day what you earned in two weeks if you aren't on the right side of things.
I could go one for pages, but instead I would recommend the reader to buy any book written by Joe Ross, Larry Williams or George Angell. I did write George a letter about a month ago with a question on his latest book, but have yet to receive an answer. Just too busy daytrading I guess. Keep working, keep learning and "just do it."
Lind-Waldock's Lind Online vs. LFG's Zap On-Line - D. Powell
First some background. I have had an account with Lind-Waldock since 1989. I started as a position trader but evolved into being an S&P day trader. After a couple years of learning and testing I ended up doing well trading one to five S&P contracts intraday using mechanical breakout systems. Then I stopped trading for a couple years to build a new home.
When I was ready to start trading again I tested my systems for the period that I had not been trading and found that they had stopped working. For the last year I have been working at discretionary S&P day trading. I'm not trading profitably yet so I have very recently started "practicing" with the E-Mini (Yes, the commission to contract size is out of whack but for my purposes that is OK).
Now back to trading on the Internet. I have gotten fairly good at identifying entry opportunities but quite often don't "pull the trigger" when I need to. I realized a couple months ago that having to place my orders by telephone often adds enough mental resistance to keep me from "pulling the trigger." I had gotten to the point where I simply did not like giving phone orders and this was working against me. So, I stopped placing telephone orders and started using Lind Online.
Before I go on let me say that I have had a very good experience with Lind-Waldock. I intend to keep my account with them. I was enthused at the prospect of electronic trading. But I was soon disappointed in Lind Online. The program reminds me of a 10-year old DOS program. It doesn't look and feel right (to me). It's sluggish. The Internet fill reporting is no faster than with orders placed by telephone. And with S&P market orders fills are not immediate given like they are with phone orders. I tried a few trades with the E-Mini. Forget it! Lind-Waldock allows stop orders for exiting an E-Mini position but the reaction time is way too slow. On one order my fill was made 38 ticks after the stop was hit! However, even with my disappointment I still prefer placing my orders with Lind Online to placing them verbally. Lind Online is a step in the right direction (and there is a $3.00 discount per RT).
Then I read Mark Byrd's article "Electronic Order Entry on the Internet with LFG's ZapFutures" in the Jan/Feb 98 issue of CTCN. I called LFG to set up a small account so that I could test Zap On-Line. I was quoted a rate of $45 RT and so I moaned and groaned because I pay $15.04 RT with Lind Online. I mentioned the $22.54 RT rate that I had seen in CTCN. I ended up with an RT rate of $27.04. Is it worth it to me to pay an additional $12.00 per trade? For now -- yes.
A few things that I like about Zap On-Line: Orders can be set up and "parked," ready for instant transmission. Fills are reported very quickly (via the Internet).
E-mini orders are transmitted and filled almost instantly. Market, stop and limit S&P orders are transmitted to a broker operated workstation (CUBS) in the middle of the pit. This yields quick order entry and fill reporting. The broker using the CUBS unit does not see a stop order until it is converted into a market order. Because of this you can move a trailing stop as often as you like (the computer doesn't care).
Zap doesn't disconnect as frequently as Lind Online. Refer to Mark Byrd's letter for more details about Zap On-Line. (https://www.zapfutures.com/)
I checked with another company Xpresstrade. Based on only a quick examination my impression is that their service would be similar to that of Zap Futures with the exception of having a CUBS unit for S&P trading.
They quoted a Round-Turn rate of "approximately" $25.84 to daytrade the S&P and "approximately" $26.84 to daytrade the E-Mini. (https://www.xpresstrade.com/)
I'm hoping that Lind-Waldock will eventually improve Lind Online because as I said earlier. In the meantime I will be using my Zap Futures account.
Trader' s Tax Survival Guide & Tax Strategies for Traders - A Book,
Video & Tape Review by Raymond Kohn - Part 1
Some CTCN subscribers may recall that I had previously referenced Mr. Ted Tesser's original book "Trader's Tax Survival Guide" copyrighted 1995 in a prior commentary on Federal Taxes. Ted has recently come out with his "Revised Edition" of the "Trader's Tax Survival Guide" copyrighted 1997, 290 pages ($75.00). A special promotional offer by Future's Learning Center, packaged this book along with one of Ted's seminar videos titled "Tax Strategies for Traders" ($69.00), and an audio cassette titled "How to Turn $30,000 into $1,000,000 (and get the IRS to Foot the Bill)," all three items were packaged together for a special price of $119.00.
This review will cover only the book. The other two items will be covered individually in a future issue of CTCN.
Before beginning this review it is important for me to provide you with an insight into my own perspective. Please keep this perspective in mind as you read this review. To begin, I have been a student of the "Tax Laws" for over 30-years. I subscribe to many of the professional "Tax Manuals & Guides" used by CPA's which Ted references in his book. And, though I am not a CPA, I consider myself an "expert" on Tax Law. As a result, I consider most of what is contained in his "book" pretty standard stuff.
However, the video tape was exceptionally well done and contained the necessary "Legal Precedents" and other information not typically found in the IRS Tax Code. (The Video Tape will be reviewed for a future issue of CTCN.)
Important: Even though this book is copyrighted 1997, it is not updated to include the 1997 Tax Reform Act just recently passed by congress. However, in-of-itself, is not a major problem. It is just something that you should be aware of as you read this book. Several references made in the book no longer apply, or are significantly altered by the 1997 Reform Act.
(Special Note: In general, ALL tax books have a very short life span. Congress changes the tax code with such frequency that it is impossible for a book, like Ted's, to retain much value from one year to the next. However, the area of the Tax Code which specifically concerns "Trader Status" is unique, and has been established more by "legal precedent" than by actual "tax code." Therefore, Ted's references to the "legal precedents" continue to have value to the reader.)
As the title implies, the focus of the book is to define "Trader Status" for tax filing purposes. Most of the important information you need to know to qualify for "Trader Status" is contained in Chapter 13, which begins on page 219 and concludes on page 236. Everything else falls into one of the following four general categories:
"Historical Information" -- Which highlights key tax issues contained within the various tax reform acts previously passed, and how they evolved from one tax reform act to another, beginning with the tax reform act of 1986.
"Political Commentary" -- Ted just hates Bill Clinton and does not disguise his total disgust for the man. (Who can blame him, what's not to hate.) There are numerous references to Clinton's sneaky, and nasty tax provisions. Including Clinton's authorship of the biggest tax increase this nation has ever seen in its entire history.
"Tax Increase Politics" -- This is interesting. It details the hidden techniques used by politicians to raise your taxes through subtle changes in the tax code. Thus, politicians can keep the tax rates unchanged, yet via subtle exclusionary rules buried deep within the code, they can effectively "raise your taxes" and you'd never know it. You just seem to be paying more and more taxes each year.
"General Fill Stuff" -- there are numerous personal anecdotes, real life stories, tax audit ideas, sample tax forms with completion instructions, and various tax saving considerations and techniques that the reader might find both interesting and enjoyable.
If you prepare your own tax returns, and subscribe to various professional tax publications, (in order to keep abreast of recent changes and rulings concerning current tax laws), you will find this book to be already "out-of-date," and of little help -- With the exception of Chapter 13 of course. If however, your knowledge of tax law is just average, or nonexistent, then this book will be a real eye-opener for you, and a must read.
For many of you, preparing your taxes means transferring all those loose papers and receipts, that have been accumulating in the dresser drawer, into a cardboard box and trekking them down to the local H&R Block office. Considering the complexity of the tax code, who could blame you for not wanting to waste your time learning tax law just to fill out your basic 1040 and all of the supporting schedules.
However, given that the average individual pays more in "taxes" than he does for "food," "shelter," "transportation" and "clothing" combined, it is important to realize that H&R Block, along with many other tax preparers, are not financial planners. They could care less how much you actually have to pay in taxes each year. Their only concern is completing your tax returns based on the information that you give them.
Ted makes a solid argument that if you want to save money on your taxes, you, and only you, have to take responsibility for learning the specific areas of the tax code that are relative to your lifestyle and profession. And then, you must take the necessary action to model your lifestyle in a tax advantaged fashion, while maintaining a solid record keeping system. It is an unfortunate fact of life, but, in order to save money on taxes, you have to live each day with an understanding of how that day's activities are affected by the tax code. And, always keeping a constant eye on making "tax wise" decisions throughout the year.
(Special Note: You no doubt have heard the term "Social Engineering." Politicians use the tax code to "reward desirable behavior" via tax incentives, and "punish undesirable behavior" via the loss of tax benefits. Therefore, if you want to take advantage of a given tax break, you have to "do" and "act" in a manner that politicians deem appropriate. If you somehow expected "free choice" in a supposedly "free society," you might be able to have it, but it will cost you big-time when you pay your taxes.)
This book gives you a great historical perspective of how politicians have manipulated the tax laws to serve their own interests, and how they use the "complexity of the tax code" to hide their insatiable greed for your hard earned money. You come away from this book not only hating the tax code, but also hating the politicians that created it. (And, the biggest joke of all, is that this book doesn't even include the 1997 Tax Reform Act, which is the single most extensive and complex alteration to our tax system in the entire history of this nation. The 1997 Tax Act contains over 1,000 complex changes to an already burdensome and complex tax code.)
Ted touches on the benefits of pension plans, IRA's, 401K's, Keogh's, etc., however, given the dramatic pension plan changes contained in the 1997 Tax Reform Act, this area is interesting, but of marginal value. In fact, I found his discussion regarding "pension plan distributions" to be surprisingly incomplete for a book like this. He never made mention of "penalty free periodic withdrawals prior to age 59½" (annualizing your IRA) as a viable distribution alternative. (Frankly, the "annuity exception" as a distribution method, can be a gold mine for a trader managing his own self-directed IRA. And, he fails to even mention it. Shame on you Ted! This is a major faux-pau for a book like this.)
He touched on Estate Planning, and other related "wealth transfer planning techniques." These areas are very complex, and would take a library of books to cover the topic in depth, but, he does a pretty fair job of it. However, Clinton is already discussing making major changes in the Estate wealth transfer laws for 1998 which could have a significant impact on everything contained under this topic.
The one "Tax Benefit" that politicians have still left us, are the tax benefits derived by setting ourselves up as a business enterprise. Once you begin operating as a business, many expenses that were previously nondeductible (paid with after tax dollars), all of the sudden can be transformed into tax deductible expenses, thus reducing your taxable income.
If you are not familiar with the term "Schedule C," then this book is well worth its modest cost. The "Schedule C" is the IRS tax form which is used by "sole-proprietors" to report their business income and business related expenses. (Other supporting forms typically accompany the Schedule C to support certain expenses like depreciation, etc.)
The one unpleasant aspect of reporting a "net profit" on a Schedule C is that 15.3% of your net income is immediately lost to Social Security (and you can't shelter or offset the Social Security tax with offsetting itemized Schedule 'A' deductions). And then, to top it all off, you have to add your Federal Income Tax liability on top of the Social Security taxes. The combination of Federal Income Taxes and Social Security taxes can add up too as much as 5O% or more of your total earned income. What a joke.
(Special Note: Social Security Tax is a very significant element that cannot be ignored. The fact is, 75% of all taxpayers pay more in Social Security Taxes than they do in Federal Income Taxes.)
Electing "Trader Status" (although not an easy thing to do) can reap many rewards. When you call yourself a "Trader," you're basically saying that the intensity and frequency of your trading activity qualifies as a business enterprise. Therefore, you are entitled to be treated as a business enterprise and entitled to deduct all of the necessary business expenses related to that business activity. However, being a professional "Trader" is not like any other business enterprise out there. It is unique. Here are a few highlights:
1. All profits and losses from your trading activities are not reported on your Schedule 'C' as "income." But instead, your trading transactions retain their "capital" nature and are reported on your "Schedule 'D'" -- In the same manner as if you were a private "investor." Therefore, your Schedule 'C' shows no income. Thus, with no income to report, there is no Social Security Taxes due on this unique type of "self-employment." (That's a very big bonus.)
(Special Note: Since you have no "earned income" to report on your Schedule C, you cannot make a contribution to your pension plan (IRA or Keogh). However, if you have other sources of income from teaching investment seminars, or providing an investment advisory newsletter, these types of income are also reported on a Schedule C, and any net profits are subject to Social Security self-employment taxes, and thus, any net profits can be used to qualify for pension plan contributions.)
2. All expenses related to maintaining your trading activities become deductible as business expenses on the Schedule C, (including margin interest expenses). Thus, your Schedule C will always show a significant loss, which is fully deductible against other sources of income reported on your 1040.
(Special Note: There is no 2% of AGI (Adjusted Gross Income) limits on these investment related expenses, as is the case when you itemize on Schedule A. Therefore, you cannot only deduct 100% of your "Trading" related expenses on Schedule C. But, you can also take the full "Standard Deduction" which is available to you when you don't itemize.)
3. You can have more than one business activity. And, if so, each business activity would be reported separately on its own Schedule C.
4. You can be both a "Trader" and an "Investor" at the same time. However, only your expenses associated with your "Trading Activities" can be reported on your Schedule C. You must keep track of, and separately allocate, all "Investor" related expenses. These "Investor" related expenses can only be deducted as an itemized expense on Schedule A, and are subject to the 2% of AGI limitations.
In an article in the April 11, 1997 issue of the Wall Street Journal in the "Your Money Matters" column, Accounting and Tax Professor, Philip Storrer states:
"Short-term securities traders trying to catch daily market swings qualify for a rare tax break. A trader reports short-term capital gains and losses as usual, on Schedule D, but he can put all his expenses on Schedule C because he's self-employed in the business of being a trader. With no income shown on Schedule C, the expenses produce a fully deductible business loss -- a plum denied to ordinary investors. Lacking Schedule C income, a trader isn't subject to the 15.3% self-employment tax either. To be a regular short-term trader and use Schedule C, court decisions say, you must buy and sell "with reasonable frequency" in search of short-term profits from daily market movements."
As you can probably tell, the key to electing "Trader Status" is not established by the "tax code," but is established by numerous "Legal Precedents" that has been set via various court cases on the subject. Therefore, you must become familiar with the various court cases which have established the legal precedents that define "Trader Status." This is no simple task, and represents the primary benefit of Ted's book and tape series.
Ted's companion video entitled "Tax Strategies for Traders" focuses on many "Legal Precedents" that a "Trader" must rely on when defining, and defending his "Trader Status." If you are audited by the IRS, it is highly probable that your auditor will not understand, nor be aware of, the unique tax environment that exists for the professional "Trader." Therefore, you have to be prepared to define and defend your "trader status."
The video will be the focus of a future article for CTCN. Watch for it, it'll be a good one.
On a Personal Note: Every investor/trader should always focus in on "After Tax Returns." The 1997 Tax Reform Act reduced "Long Term Capital Gains Tax Rates" down to 20%. This compares to "Normal Tax Rates" as high as 39.7%. As an equity "Trader" all of your income would be subject to "Normal Tax Rates," which are now twice as high as "Long Term Rates," (with the exception of Futures Contracts which provide partial Long Term treatment). That means for every $100,000 you earn as a "Trader" your going to pay twice as much in taxes than you would have to pay if you were a Long Term Investor. (This adds up to an additional $20,000 more in taxes for every $100,000 of taxable profits.) This is such a significant change in the tax code that it could turn us all into Long Term Investors.
If you carefully evaluate the tax savings achieved when investing "long term" as opposed to "short term," you may find that all the hassles associated with being a "short term trader" just aren't worth it. You may find that the tax savings associated with "long term investing" more than offset any potential rewards and deductions associated with electing "Trader Status." Give it some thought.
Trading Discipline - Andrew Abraham
As traders we constantly hear about Discipline. One of the problems is the actual definition of what it really means. It is almost illusory. This is where the problem begins and ends. Most traders don't put enough emphasis on this subject. They rather put all their time on developing systems and trying to find new and exotic indicators. Traders that haven't developed the necessary skills of discipline are doomed to fail. They might succeed for a period, but that is just luck.
Trade Discipline is the most important aspect of trading. A good system without discipline is not capable of success and ironically a poor system with discipline is more capable of success. Funny!
Now that maybe we are beginning to see the importance of discipline, how do we put it into practice? Discipline can be learned and enhanced. There are levels and a structure to discipline. These levels mesh together and form a matrix. To put it in a format easily digestible is:
1. One must be diligent in keeping his data up-to-date. This way you will generate valid signals. This doesn't mean the trades will work but they will be a valid signal. There are many corollaries to this . . . what if the trader is too busy to keep his system up-to-date . . . then he/she must figure out a way that works for them or not trade that system. As a broker I have seen so many traders make this simple flaw . . . or even traders who don't even have to maintain a system that receives signals from either a trading advisor or an advisory service and can't follow the instructions. They try to override the signals and second guess the advisor they are paying a huge sum. The difficulty comes for them when they are in a drawdown. After three losing trades on to the next advisor or system. The only answer I have to this is let someone not connected to the financial or emotions of your system trade it for you. They will be objective and follow the rules the way they were meant to be traded.
2. Pulling the Trigger . . . seeing an opportunity and actually taking the signal is two complete and separate issues. Maybe the trader can keep his system up-to-date, but seizing an opportunity is a different story. Maybe it is fear, whether it is fear of a loss or even a fear of a win. Either of these two will prohibit action. Once one has experienced a loss they will try to avoid it. The same goes for the trader who really doesn't want to succeed. They might feel they don't deserve the success. This is a much harder issue to address than one who is afraid of a loss.
Simple ways to overcome these phobias. One way is find a trading partner -- someone who will make you honest with yourself and be introspective or have someone else trade your system for you.
This is a quick test of Discipline . . . ask yourself these questions:
1. Are you losing money when your system says you should be making money?
2. Is your performance identical to your systems?
3. You made money and your system lost money?
Be introspective. Look deeply at your wins and losses. Study the reasons of the losses. Was it because of emotion? An error? Lack of capital? Disorganization? How about your wins.
Another idea is to have a trade diary . . . write down how you feel after you put on a trade (special situations before you put the trade on -problems with the kids or spouse). The time, date and the reasons for entry. Be specific about the time and date the trade was closed, reasons for exit. Examine this information a week later and look for patterns. It could be that you had a fight with someone and were nervous or even that you listened to someone while you were trading.
Discipline can be as easy as following your signals or as complex as you want to make it. Keep it simple. Be easy on yourself once you have taken this step of realizing success is not too far out of hand. With discipline comes the potential for success in trading. Risk is reduced -- profits are possible and drawdowns might be reduced.
Angus Jackson is a Futures broker who is dedicated to helping traders trade to the best of their abilities. We can attempt to help traders with the issues discussed on Discipline. We can maintain and operate your system or any commercial system on the market. We try to present a total strategy for traders encompassing money management, risk management and a system or a method a trader is confident to trade. Our top executives have studied with leading market systems' providers as well as trading psychologists. Our success as a firm is contingent on the success of our clients.
"Tis Easier For A Camel . . . J. L. from Wimauma
To pass thru the eye of a needle, than for a rich man to enter the kingdom of Heaven." How many of you parochial school products remember that one? Tough enough to hear that today, but for them to lay that on a five-year-old boy was cruel and inhuman punishment! Is it any wonder I can make money for my friends, but refuse to do the same for myself? It's murder to know how to make unlimited money but to subconsciously be afraid to! (Yeah, I still want to go to Heaven, darn it.)
Well, having covered that subject, on to the only subject which might be more important than commodities (I said might). That, of course, must be the health of the trader. Just call me Dr. Water. Since last issue, I'm forming another conclusion. I am concluding that chronic dehydration of the population is the root cause of all degenerative diseases and the strongest ally of the infectious ones. Is it any wonder? Despite what the "gov" says, our municipal water supplies are recycled Pee (and worse)! The water is not even tested for 50 to 60 known contaminants, not to mention how awful it tastes from the cancer-causing treatment! Consider what you yourself also flush down the drain - garbage, cleaning solvent, bug sprays, old paint, etc., etc., and that's not even starting to tally up industry's wastes!
So what to do? Answer. Own a healthy well (if you can find one). If not, drink distilled water -- distilled because I don't entirely trust "spring" water, and carbon filters are breeding grounds for more trouble. Distilled because it takes the water from the contaminants, and not the other way around.
How long have we heard: six to eight glasses a day? Consider what probably happens with less. For starters our "river of life," our blood stream, has to thicken. Nothing gets in or out of our cells without the blood stream. All of the vitamins, minerals, (and yes, oxygen from your exercising) are wasted if the "delivery system" is all "sludged up." Don't you suppose alone, "thicker" blood must have more difficulty getting thru the miles of minuscule vessels that make up most of our system -- most especially the brains that we need to figure this all out?
Add the muscular tension that accompanies today's stress, and we've got at the least, capillaries that aren't carrying much of anything! I'm not forgetting the increased deposition of calcium and cholesterol in artery walls (heart attack and stroke) or the failure to flush "civilization's" toxins out of us (the big "C"), or that whole second circulatory system (the lymph system). No space here to discuss allergens, diabetes, etc., etc., but now, arthritis . . . "A" started it all. When I couldn't scrub my own back anymore without pain, I started taking glucosamine sulfate (it's even on TV). It started working! Then I accidentally discovered how it worked! Lo and behold, it attracts water to the sac of synovial fluid which should have cushioned the bone ends in the first place! Osteo-arthritis probably is dehydrated synovial sacs! The proof? I tried the water without the supplement and it worked even better! No more arthritis! (Tip . . . You have to look for it, but Glucosamine Hydrochloride is much cheaper and works even faster, but now you shouldn't even need it!)
Or maybe you might. What has this got to do with trading? I'll bet you a soybean trade that 98% of you readers have never in your life, purposefully drunk eight 8-oz glasses of water in one day. So how could you know how many times you're in the john when you drink eight glasses of water a day (usually earlier in the day so that you can sleep at night)? Try that on an 8-5 job! Even if you had the right water, what boss (or customer) would understand? Enter commodity trading to save the day. Who's going to tell us that we can't drink all the water we want? (When your urine is clear, the job is done.) For the above reasons, is it any wonder that our hospitals are full of prematurely old and sick people? Today's "schedules" don't even allow enough time for proper sleep much less a good daily "flushing out."
Just one more water item. What's the first thing we "older gentlemen" do when our prostate "signals?" You know what I mean, guys. Why, we stop drinking water! At least for me, drinking more water has me "thinking" like a teenager again!
Also, amen to Raymond Kohn's conclusions about detachment and perspective. It's like going from paper trading to the real thing. Talk about the game changing! Check his last issue's advice to keep a little "hard" money still coming in from outside. I think it works. (Tip. Don't forget -- as I often do -- that marvelous tool called an "intra-day break-even stop." It can often make a difficult decision a lot easier. After all, isn't this game about learning how to minimize losses?) Good trading and go accomplishment!
Trading Systems, Risk Management and "Stops" -- by C. C.
Many traders use "stops" -- a risk management approach which reverses (or gets out of) a trade once the trade loses more than a given amount. In general, stops are a "good thing." They help to control risk and reduce exposure during adverse market moves.
The use of stops is often a function of a trading system's time-frame or approach. For instance, if the stop is placed relatively close to the market, smaller movements will cause the position to be stopped out. Close stops might imply a shorter-term time-frame, stops which are further away from the market price imply a longer-term time-frame (or an attempt to capture larger moves).
The use of stops can often improve a system's risk-adjusted performance. However, stops are not the "see-all" and "be-all" that some might imagine. For example, the table below shows the negative impact of stops which are "too close to the market price" (for a longer-term trend-following system, trading a basket of commodities). Chart in Print Copy
Many traders use stops. However, it is important to note that stops are not the only way of managing risk; they are just one of the design parameters for trading systems. In general, most successful traders do seem to cut their losses if markets move against them. Their methods might include stops, support/resistance levels, or money management techniques.
In addition, besides trading system design, there are many others ways of monitoring and managing risk. I study risk on a variety of levels, ranging from methods as simple as monitoring recent portfolio volatility, to using value-at-risk techniques, to stress testing (where I study the portfolio's performance in various extreme cases). Whatever methods you prefer, you must find a systematic approach with which you are comfortable. Good luck with your trading!
Using Candlestick Patterns to Your Advantage
By Steven R. & Lawrence J. Hohenhorst
Candlestick patterns can be a very useful tool for the technician when used properly and when put into perspective. By themselves they can merely indicate very short term price movement, but when employed with other technicaIs such as Elliott wave analysis they become powerful signals that can predict important trend changes.
If we turn our attention to the April 98 contract of Platinum we can see that the contract low appeared on December 16, 1997. Shortly after this a new wave pattern started to form when the high of impulse wave 1 broke out above the former downward trend. Look at Figure 1. On Jan. 7, 1998 a bullish Piercing Candle pattern formed and completed the corrective wave 2. This candlestick pattern by itself would not be a reason to enter the market long, but when found near the end of wave 2 this will often signal a completion to the corrective wave and the beginning of the new impulse wave. Chart in Print Copy
We ran this data on Professional TradeAdvisorÔ98 and a buy signal was generated on Jan. 7th as shown in Figure 1. The market surged shortly thereafter above the projected level of 382.80 confirming our buy signal on the 7th of January. On the 15th a Star forms just above the normal trading channel signaling a possible trend change. TradeAdvisor98 instructs us to place a stop around 378.60 where we get stopped out picking up a gain of around 16 points.
Many technicians still use indicators like stochastics, moving averages and MACD for trigger signals to enter into long or short positions in the market. The problem with using these type of indicators is that the lag time is much too slow. Often the projected move is almost over by the time they give a confirmation. This is where using candlestick patterns as your trigger signal can give you a remarkable trading edge.
In Figure 2 you can see that on the 7th of January a buy signal was generated by a Piercing Candle pattern on the March '98 contract of Orange Juice. Notice how on Jan. 12th Orange Juice prices broke out to the upside while the MACD indicator still had not confirmed. By the time that the MACD had confirmed the move the price of Orange Juice had surged so high that the risk out weighed the reward. This again is a major drawback when using slow moving indicators to trigger an entry into a long or short position. Chart in Print Copy
Candlestick pattern recognition can be a very helpful tool in many ways. Often, traders will enter a long or short position wondering when they should exit. The age old question is: Should I take my profits now or should I remain in and hope the trend continues? By recognizing these patterns we can get clues to what may happen.
For example, let's say the market has been trending upward for a few days, but we're a little short of where we have projected prices to go. Now, let's say a Harami candlestick pattern forms today. What should we do?
In this case a Harami pattern is formed when the previous day is a long white candlestick that is followed by a smaller black candlestick that remains between the open and close of the white candlestick. Harami means pregnant in Japanese. It signifies that a birth of a new direction may be coming soon. Now if you add an overbought Momentum indicator or a find a divergence in the MACD indicator at the same time that this Harami is being formed you may consider moving your stop much closer or exiting your position. There is no sense in losing back the profit that you have already gained. Chart in Print Copy
Look at Figure 3, here a Harami formed on the 24th of November in this March '98 contract of silver. The momentum indicator was overbought but had turned downward. This would be a good time to move your protective stop much closer adhering to the warning of the Harami.
Traders need every edge that they can get when trading and candlestick patterns when understood and used properly can give many insights into short-term trend directions. Candlestick patterns when collaborated with other sound technical analysis can provide the trader with an important tool to add to his or her arsenal.
For further information Stelar International, the authors of Professional TradeAdvisor which incorporates Elliott Waves and Candlestick patterns can be reached at stelar.com or 719-266-8710.
Grains Quoted In Contracts Rather Than Bushels - CFTC Should Mandate Computer Matching Rather Than Outcry & Other Subjects - J. B . - Texas
Recently the Chicago Board of Trade took the daring action to start calling grains in terms of contracts instead of bushels. I say daring because this stodgy old bunch of stuffed shirts can't see beyond the end of their noses. It's a wonder they don't have futures contracts for buggy whips.
Do You think that just someday they might start quoting bonds in decimals instead of 32nds? Probably not. It would take an act of Congress and the Pharaoh's army to accomplish anything as drastic as that.
And how about some real reforms, like allowing MIT and OCO orders? Ah, perchance to dream, there's the rub!
While we are talking about reforms, if the CFTC wants to make some genuine reforms to justify their existence, instead of picking upon those who disseminate information about trading, how about mandating the exchanges to go to computerized systems of matching orders on a first come first served basis instead of the open outcry? Such a system should allow equal access of any information to all parties, retail customers as well as floor traders and brokers.
Now let's talk about government reporting. The rule is to never hold a position through a government report. Unfortunately that makes daytraders out of all of us. The various government reporting agencies need to coordinate their reporting. One day you can have a producer price index, the next day a trade balance, and a day or so later a consumer prize index, leading economic indicators, ad nauseam.
It's much the same in the agricultural complex. One day there is a cold storage report, a few days later hogs and pigs, then a cattle on feed or a crop production report. Why can't they get together and put out the information all on the same day? Better yet, why don't they close down and let private enterprise decide if these reports are really necessary, or just something to disrupt normal market movement?
If you have SuperCharts you already know there is a problem with the verify error box that appears when you are writing formulas. The error messages are practically useless because what they say the problem is or what is needed is almost always wrong.
To overcome this problem, I suggest the following: When you are writing formulas and are using studies or user functions, always paste the functions in. This way you will have all the parenthesis and commas in the right place for at least that part of the formula.
As you start to add code and if you get an error message, go ahead and make the correction according to what the error message tells you. However, be prepared to be shocked if it actually works. So what do you do now? The best course of action is to go by the premise that 9 times out of 10, the problem will be in the placement of the parenthesis. It is even likely, not to be in the place where the error is shown, but somewhere ahead of that. It might even be at the beginning of the formula. You'll just have to experiment and be sure you understand what you are expressing from a math standpoint as you insert parenthesis.
Evolution of Trading The Trend - Andrew Abraham
I am sure as traders we all have heard all the sayings the trend is your friend, let your profits run and cut your losses quickly. I am also sure many of us have said easier said than done. What we need is an exact definition what a trend is and where it begins and ends.
From here we can only hope we have the mental discipline to be able to jump on and off the trend and its waves and profit. This is where discipline and a precise methodology gives us the ability to differentiate between knowing and following fixed miles or only guessing. Basically differentiating between success or failure. Chart in Print Copy
We nor anyone else developed a Holy Grail system or an infallible trend indicator, but through diversification of non-correlated trading vehicles and also a diversification of time frames, success can be obtained.
First lets delineate what a trend is. Simply up- trends are made up of waves of higher highs and higher lows and conversely for down trends waves of lower highs and lower lows. In theory, in up- trends up waves should be larger than down waves and in down-trends down waves should be larger. Now we start to see how we are filling the tenets of good trading. We are trading with the trend and in a trend locking in profits. Chart in Print Copy
In the example of an up trend, it is intact up until the previous down wave in the uptrend is surpassed. In a down trend the previous upwave surpasses the prior upwave. This is just an alert that possibly the trend might change. We would still take the next trade in the direction of trend (in an confirmed up-trend we take all upwaves and in a down trend all downwaves). This is just a clue that the situation has changed.
Our next step is to confirm whether the trend has ended. This is confirmed on our next wave. If we are in an up trend our last down wave went below the prior down wave. We are on alert as said above, and if the next up wave surpasses the prior up wave and our trend is intact and our alert is turned off. If it doesn't, this is called a failure swing and our fun has ended for the time being.
Lets review -- we identified what a trend is, where it begins and also where it ends. We discussed the mental discipline to follow every signal and also to diversify our time frames as well as various markets. Now all we need to do is count our profits. Good luck trading!
BOOK REVIEW: DiNapoli Levels - Ray Barros
Introduction -- I first met Joe DiNapoli in the early 90s when he and I participated in an S-E Asian speaking tour sponsored by Reuters Asia. At the time, Joe struck me as a trader who walked his talked. What was particularly impressive was he kept complicated concepts simple.
This book reflects Joe's personality and approach to trading.
Review -- In the first section, it starts by drawing a distinction between:
1. mechanical and discretionary trading
2. position versus daytrading
It continues by defining the essential terms Joe uses, e.g., trend, movement etc. Finally it sets out what Joe considers essential factors for trading success. Ultimately however, this is a "how to" trading book. Usually "how to" trading books can be separated in to types:
a) ones containing a series of techniques e.g. "Street Smarts"
The only way I know adequately to review these is to test the methods.
b) ones that contain total "total trading plans."
These I review by comparison to the "successful trading model."
DiNapoli Levels looks to introduce a total plan. The other elements of successful trading, winning psychology and effective money management, only rate a short mention .
I believe all successful plans have certain common elements.
1. delineate time-frames as well as identifying trends and changes and trend.
2. identify low risk entry.
3. manage a trade once it is initiated.
How does Joe's work compare? He delineates time-frames and identifies trends and changes and trend by reference to displaced moving averages. This is true for all data from daily upwards. For intraday data, he uses the MACD to identify the trend and stochastics to identify end of intraday corrections.
For daily (and higher) changes in trend, Joe introduces the concept of Double Repo. He also uses the detrend oscillator to identify changes in trend in the daily time-frame. For intraday changes in trend, he uses the MACD signal. I give him full marks for this requirements.
Once a trader has identified a trend, he has his strategy, he has decided to be either a buyer/seller/to stand aside. The trader now looks to enter a trade in circumstances where his risk is lowest.
Low risk entry has 3 components:
1. zones i.e., support and resistance areas that a trader can fade.
2. setups - chart patterns that indicate that zone is likely to hold.
3. triggers and initial stops - closely allied to setups, these patterns tell the trader "now is the time to enter" and where the initial stop should be placed.
To determine zones, Joe introduces his DiNapoli Levels. At these zones, he looks for a number of setups: e.g., single penetration, failures, "railroad track". . . to name but a few.
Joe does look at oscillators and goes to great lengths to explain which ones he believes work and which ones do not. He fully explains the use of the detrend oscillator for daily and above and stochastics for intraday.
Each setup is accompanied by the corresponding trigger. Entry techniques can also be filtered using the detrend.
In this section I again would give him a perfect score. Once a trader is in a trade, he needs to manage it. Joe's approach is straightforward. Each trade has a reason (context in his terms). Every trade has a profit objective. The initial remains fixed until the price objective is reached or the context disappears. Again, I would give Joe high marks for trade management.
Conclusion -- This book is good value for money for those that don't have a trading plan with an edge, I have no doubts that if the plan I followed with reasonable consistency, it will make money. The more experienced trader who uses moving averages and oscillators may get some new ideas. I would rate the book 9.3 out of 10.
"How I Successfully Day Trade the S&P 500" by "S.A.T."
(the "Successful Anonymous Trader")
In trading, I would recommend trading with the trend. I know it sounds cliché, but I have found it is the most rewarding (I found this out - like everything else - the hard way).
Selling tops and buying bottoms is like being a salmon. You are always swimming upstream against the trend. You may get a good trade now and then, but a market will wear you out in the process. I have always found these trades looked great going back on a chart. In trading real-time from the hard right side of the chart without the benefit of hindsight make these trades difficult to not only see, but see through to the profitable end.
So trade the trend. Enter on pullbacks, use reversal bars that make pivot lows/highs and close back in the direction of trend. Move stops quickly. Take reasonable profits from the markets trading that day. If market is slow and in a trading range mode, go for less. How do you know what to go for? Your experience will tell you. There are no hard and fast rules, sometimes I get out way too soon.
Sometimes I stay in too long, but in general I do OK and get my share.
I hate to say it, but good trading is not 100% mechanical. I wish sometimes it was, but that's what your there for. I find that good trading will be 80% mechanical or/so and 20% will give you the flexibility. To use your experience and feel for the market to enhance your method and make it comfortable.
I'm not saying you can't be 100% mechanical. I believe your most profitable trading will be a system that allows you some input on entries and exits. I use a 3 and 5-minute chart, side by side and take the first signal. I get in the direction I want to trade. Sometimes a 3 will get me in and a 5 won't give me the reversal bar, and vice versa. This way I don't have many moves pass me by. One of these usually will get me in.
I have been told that many people have called Dave Green wanting to share my system. So I will, but I told Dave it's ridiculous. I know these people are thinking, If I can find out what and how this guy is trading, I'll use it and I will start making money. I'll be rich. All I need is a good system. It sounds like this guy has something really hot! If he will just divulge it. Well, if you really look at what I'm doing, it's waiting for a trend to begin and getting in on pullbacks that usually come into a 38 - 50 - 62% Retracement of the last swing and reverse out of there back in the trend direction. Very simple.
This was probably being done before 1900 - you can do this. So why are most people losing money daily? read on. . .
Editor's Note: Some of S.A.T.'s methodology is depicted on his chart, reprinted here: (Chart is in the Print Copy only)
By the way, this simple method is the best way I've ever seen to trade. I just put my own little wrinkle in it with common sense money-management. I'm not doing anything new or secret. My method is very simple and easy to trade. I hope this gives CTCN readers some ideas. However, I want to make some caveats and warnings for all the wanna-be-traders who want to trade for a living and/or think they can.
I'm no market wizard. I still trade mostly one and two-lots and I don't live in a $500,000 home or drive a Rolls Royce. My trading has become very consistent and profitable and continues to get a little better every month. My method is my tool. It's an excellent tool and works extremely well when I use it the way it should be used. If more money is lost than normal, if stupid or random trades are taken, it's not my system or my method that has failed, it's me, myself, and I, (Yes, I take stupid trades now and then) I'm human. I try to keep them at a minimum and allow for them. My first 8-years of trading results would probably make you throw-up. Lord knows my wife did!
The point I'm trying to make is that learning how to trade profitably is very difficult. Once learned, it becomes simple and fun, like I mentioned in (previous) CTCN article.
I feel sorry for the people who write to these newsletters or forums. Most of you are missing the boat (just like I did my first 8-years). I see you squabbling over data vendors, system vendors, methods, hotlines, new and old systems. People who made false statements about their product.
You are too concerned with continuous data or the other kind of data (I forgot what it's called). Optimization, back-testing, percentage of wins, maximum drawdowns, broker problems, new software programs, books, articles, seminars. (Oh, I just remembered the other data is called perpetual, I think) etc., etc.
This stuff is all secondary in nature to success. All this is crap. It will not make you money and is a complete waste of time. Believe me, I know. People need to work on what's inside them. Your psychological makeup, how you interact with the market and how you deal with fear, greed, anxiety, etc. It's you against you every day. Not you against the market. Not you against another trader.
The market is going to do what it's going to do every day. Whether you're in or not. The only thing that determines if you make money or not, is how you react to market action. Only you can give yourself money or lose money trading. Not the market, not the system, not the data, not the software package you use, not the hotline, book or seminar you purchased. Just you!
Do you would-be or aspiring traders finally get it? Most of you are looking in all the wrong places as the song goes. A perfect example, is in a CTCN article by Robert Edwards. He wants to improve his trading and I'm sure he is trying very hard. But as I read his article, Robert has missed the boat and will never truly succeed until he works on his psychological flaws. For example, he continues to let fear and greed ruin his trading. He's afraid to let a profit run, for fear of giving back a small profit (greed).
These are serious problems and deep rotted in his psyche. However, he's not seriously dealing with it. How do I know? Robert made the statement "I may lose next year. If I do, it must be, it will be, because a better team beat me. It will not be because I beat myself." Now Robert, what kind of stupid statement is that.
It shows you take no responsibility for your losing, some other team or guys beat you! Robert, if you lose next year, it will be because you traded poorly. You didn't react well to market action. Nobody or no market is out to get you. They don't even know or care that you exist.
Your assumptions are not quite right on what it will take to turn your trading around. You say you must change your patterns - get some guts - you believe as you stated "If you trade you will error" and "Trading is like throwing a knife in the air and catching it in one's hand and getting bloodied pretty good." That's a real positive view of trading, isn't it!
It is no wonder you're having trouble. You truly view trading as a very negative thing. You really do! You must work on changing your views into a positive attitude. Can you be honest to yourself to do it? You must, if you are to succeed.
I trade 2-5 times a day. If I felt as you do, I'd probably blow my brains out in a week. I look forward to each new trade. I can't wait for the next signal. I'm confident enough to know I'll make money 6 to 7 out of 10 times. That's the attitude to have -- positive with confidence.
I don't mean to pick on you, but your case is typical (I was there once). I hope you will take this in a constructive way. It will change you. It will take sometime, but you can do it. I'm writing this letter for therapy to keep my concept in the front of my mind, as well as helping others. I speak from real feelings and experience. I started writing a short letter, which has turned into a lengthy dissertation. I hope I have awaken some of you.
It makes me sick to look back at my horrendous years. I went to all the seminars, bought systems, books, tapes, software. None of them made me money, because I had some real psychological issues to resolve that only manifested themselves in trading. If you have any personality flaws, trading will bring them out.
Do you really want to trade for a living and enjoy the kind of lifestyle it affords? One of freedom and money. Then you better be prepared to deal with your dark side and confront your psychological weaknesses and be honest with yourself (painfully so) be willing to change. It's not easy, but can be done. I have come far enough to turn my trading around - but I work on it every day.
Do you have problems with placing stops and taking a loss? Do you get mad at the broker or the market when you lose? The market doesn't do what you thought it would do. Do you get mad at that stupid system you bought? The system went into its largest drawdown the day you started trading it.
The list of questions goes on and on and yes I've done all this and more. Resolve to turn your quest for trading excellence and profits inward -- yourself. Learn to expose all your weaknesses and then work on them. Be very honest with yourself and humble. Get rid of your ego. You want to be right on a trade attitude. Risk 2% or less of your equity on any one trade.
Do this and you'll make money with any system. You will be in control, not the markets or the Holy Grail Gizmo's associated with it.
I wish everyone the best and hope you don't have to go through what I did to succeed. Cheer up, because it can be done and it's worth the price when you have success.
P.S. -- I've said my piece - got it off my back and hopefully helped some. I'm not one for much interaction and have made myself somewhat of a hermit with trading (It helps to not talk with traders) to be successful. Too much B. S. gets in the way.
So I will leave you all to ponder my thoughts. I don't care if people don't believe I'm right, because I know I am. I speak with experience, conviction and compassion for those on this journey. I will not be writing again and will now disappear into trading obscurity to enjoy trading for a living!
OPTIONS & SPREADS: The Jewel Box Guarded by the Cobra
Editor's Note: Greg's consistent long contributions to CTCN indicate he is perhaps our most articulate and educated long time article contributor. We have received a number of letters about Greg's many lengthy articles. Both positive and negative comments have been made.
A number of members greatly enjoy his articles. Some negative feedback has been received, mostly stating Greg spends too much time on non-trading related subjects. One member said a recent long contribution contained 50% non-trading related writings. Therefore, we have asked Greg if he would spend significantly more time to trading than the other diverse subjects Greg is so well versed on and enjoys writing about.
Starting with this issue Greg has indeed honored our request, as he displays his extensive trading and investment knowledge throughout this long but very educational article.
When a medical quack -- whether a jungle witch doctor or a Grub Street magnetic healer--tells of all the wondrous cures he has effected, you suspect the stories are fictional but you cannot see the trails of corpses. But every gambler and trade sees many losers, many monetary corpses. Yet he gazes into the eyes of Lady Luck and says, "You'll be true to me, won't you?" or perhaps, "You conquered and destroyed them, but I'll make you my kitten," or maybe even, "You bankrupted all of them so it's only logical that you'll enrich me."
According to an old joke, "Second marriages symbolize the triumph of hope over experience." So does much of the trading that goes on. Any experience at all with The Exchanges reveals Lady Luck behaving like Delilah or Mata Hari, poisoning men like Lucrezia or stabbing them in the manner of Tosca. Every opera-goer knows the phrases "as cold as the heart of Musetta, as deadly as Tosca's kiss." Speculators should also know these, so they will not keep expecting Lady Bountiful and getting the knife. Dame Fortune can be subdued but the jewel box guarded by the cobra attracts too many dabblers, picnic forty-niners, and this-amulet-will -protect-me types.
Despite all the Delilah's haircut symbolism in the above paragraph, it is not my intention to be anti-female. The murders committed by Lucrezia Borgia on the dramatic stage and Floria Tosca on the operatic stage were apocryphal. The trading losses suffered by the fellows in the sports bar or the hunter's den could not be more real. Female speculators have their hits and misses but are far outnumbered by men who go too abruptly from the boy scout handbook and the tent-pitching to the financial trenches and artillery.
Yes, Dame Fortune can be subdued -- one man's one-man technique to appear shortly -- but what a victim list she has! Week-end warriors. Fresh water sailors. Tenderfoot scouts with rifles. In Iowa, the RA Investment Club was formed to trade purely in futures and futures options. The RA stands for "resident advisors" -- the members are all employed as resident advisors in halfway houses of the Iowa Department of Corrections, helping newly-released inmates return to society.
Those members could have used a halfway house between insured deposits and dicey risk. The New York Times quoted the club secretary Craig DeMaris as saying, "We were always hearing those commercials on the radio that said, "Turn $5,000 into $25,000!" They ventured into unleaded gas, then wheat, then soybeans, during which time they turned $6,000 into $400. Subsequent investment only in grains brought a fractional recoup. (February 1, 1998)
The radio commercials carried an obligatory warning, "Risk Is Involved." The broker-advertisers keep that brief and the venturers give it about as much attention as bikers and their chicks give a sermon on celibacy. If options and futures appeared in the pages of an elementary school reader, it would say, "Zero sum game. Dick must lose a dollar for Jane to gain a dollar. Each must lose another nickel to pay Spot a commission. The kiddies who played the game last week don't anymore. Empty pockets."
One wonders if those resident advisors would have joined the fracas if the radio commercials had said, "This game robs Peter to pay Paul. Sign up and maybe you'll be Paul if you're not Peter." Okay, nobody expects travel bureau ads to mention shark attacks or trouble with the natives. But if the tourist wipe-out rates were anything like the 80 to 90% losses suffered in options and futures, would anybody get on an airliner? Would anybody be satisfied with a mere fine-print warning?
Samuel Johnson wrote, "There is no occupation in which a man can be more innocently engaged than the making of money." Granted, profit-taking is more innocent and virtuous than murder or adultery. Back in the 1700s, though, Dr. Johnson never saw motion pictures on late night TV. In the 1930s movie musical Swingtime, Fred Astaire visits a dancing school where Ginger Rogers teaches. He asks another instructress the price of lessons. She replies, "Lessons are $45 but first we give you a try-out to see if you have any talent. That's why this school is so successful. We never turn down $45. I mean, uh--"
Switch channels to the Errol Flynn film They Died With Their Boots On. The baddy is a Golden West profiteer who claims to sell rifles only to friendly Indians. His working definition of a "friendly" turns out to be any Indian with $75. A commercial interrupts. A brokerage firm proclaims fantastic profit potential and quests after "suitable clients:" Suitable. You must breathe and have a bank account and not practice cannibalism. Think of all the Titanic passengers and Zulu tribesmen who would not qualify.
The TV and radio commercials abound because they anxiously need speculator recruits to fill the vacancies created by last month's Verdun campaign or expedition against Sitting Bull. Yes, Dame Fortune can be subdued, and you can become paid Paul rather than robbed Peter. It can be done regularly, consistently, without calculus or computer or degree. But do not take to the air with just shooting-gallery skill and judgment, as many do, and then attack the bloody baron's 80 fighter planes, as many do. Improved skill and judgment and smaller squadrons for quarries can make you the winner again and again.
Nobody likes to think of himself as Peter being pick-pocketed, yet millions of pockets get picked. Your sense of judgment connects intricately to the clockwork of your personality and your thinking. Whether it also connects with the realities of trading is another question. Too many timepieces point to 6:30 and ring 4:00 at the stroke of noon. Plethoras of bankruptcies attest to that.
Nearly everyone likes his or her own sense of judgment, or at least is comfortable with it, because it is part of "the real me." But does it steer a financial ship through the shoals? A fervent much length in print and broadcasting, giving a three-ring circus exhibition of how his mind works. Yet should he or you or anybody else invest large monies on ventures that rise or fall based on arrival of a UFO? Clearly, the intelligent investor must adjust his thinking to the financial realities rather than expecting the other way around.
Yet the picnic forty-niner expects huge, shiny nuggets to place themselves along a path that will not tire his tootsies and will not require more than a paltry amount of time to walk. The tenderfoot scouts at the battlefront expect a medal before they get bored with it all. The broker enlists them readily because a human punching bag's commission dollar spends as well as a champion's. Brokers' "inactive client" files overflow with people who were sensible according to most measuring sticks but who were no more willing than the flying saucer fanatic to alter their thinking or overhaul their judgment or learn something substantial.
The New York Times told of Lynda Bryson's experiences after joining the High Peaks Investment Club, a Colorado coterie: "Over the next few months, at least as Ms. Bryson saw it, many members showed little willingness to learn investing concepts. She said they joined "to get very, very rich. I don't think the hard-work part really got through to them." They did little research and figured their stock portfolio would ride with the bull market. After about a year they disbanded with a 20% loss of principal. (February 1, 1998)
The shares were bona fide securities but the atmosphere and approach resembled a pyramid scheme. Dollars would multiply and profits would pour in! No, I do not stereotype the members as mountain dew or biddies with their brains in their knitting baskets. Quite the contrary. Presumably they knew the effort required in studying for a real estate licensing exam or an insurance agenting license or learning the cogs and gears of any business. Yet they ventured much cash and apparently with less diligence than they used to give their childhood piano lessons.
It happens far more often with individuals than with investment clubs, most of which at least try for a semblance of fine-tuned management. W. D. Gann's Golden Maxim was and is, "Handle speculation like a business, not like a gamble." Who could disagree with such wise words? Yet it is one of the most shunned of all aphorisms and, in its way, one of the most menacing. Menacing like an issue of Popular Electronics to a "Flick the switch and forget it" type.
Like a business, not like a gamble. An expedition-with-maps is a challenge more demanding than a barroom bet. Wholesale merchanting is more complicated than poker or roulette. Back office diligence lacks the ease of hunch bets at Hialeah. Is it any wonder that gamblers overflow the land despite the resulting crop of empty-pocketed suckers? Or that so many people turn trading and investing into a bingo game instead of a business?
Ruckelshaus said, "Mention economics and everybody is bored. Mention money and their eyes light up." My statement is a half-variation on that: "Mention making more money and people's eyes light up. Mention learning a new business and they react like kids to a doctor's needle or a pound of spinach." Do you really think that only children bristle at doing homework? Watch the adult speculator reach for his checkbook while bypassing the "trader's techniques" schoolbooks of George Angell, Lawrence G. McMillan, Courtney Smith and Dave Caplan. "Learn a new business at my age? I feel inside I have a 'gift.' Besides, a friend of mine, a bank janitor, feeds me inside information."
In my specialty of equity option spreads, precisely how does one "handle it like a business" as opposed to like chips in a casino? One key item is the element of time, or stated more practically, patience and good timing. I may wait a few days or a week until what I consider a good position avails itself and I enter an opening or starting transaction. What's the opposite? A, gambler's antsy itch to get a bet down.
There also arises the element of time after the spread strategist has opened the position. How much time is involved, and compared to what? Welded to that is the question of how much profit is a "good" profit. Ben Franklin's Axiom "Time is money!" could not be truer in trading, My previous article in CTCN ended with a still-cooking spread in IBM call options which has since concluded and will serve to illustrate.
On January 29, 1998, I bought 10 IBM April 105 calls at 3-3/8 and sold 10 March 105 calls at 2-1/8, paying the "spread" or difference between them of 1¼ points or $1,250 plus commissions. This was a "debit spread" because I had to pay the minus amount and a "calendar spread" because I bought the far-in-time options and sold the near-in-time ones and a "horizontal spread" because the bought calls and the sold ones had the same strike price --105 points.
So what did the calendar bring? In late February, the price of IBM shares inched upward and extended its toes over the options' strike price. On February 25th, the stock closed at 105¼. Since the calls were just a small fraction into-the-money, I let the position stand overnight. The shares could dip the next day and more time-decay on the short end of the spread (the March options) would be advantageous to me. The next day, however, IBM stock fluctuated within various fractions over the 105 mark. Late in the February 26th trading day I "closed the position" (pulled out, in plain English) by buying back the Marches at 2-15/16 and selling the Aprils at 4¾.
The spread of 1¼ points at the opening grew to 1-13/16 at the close. An investment of $1,350 with commissions yielded a profit after commissions of $350 in precisely four weeks. That profit of 25-and-a-fraction percent in four weeks annualizes to better than 335%. (25.8% times 13) Time is money? Obviously, I want bigger profits and faster profits than the "long bond" (federal 30-year bond) investor now receiving under six percent annually.
However, comparisons can work both ways. Handling a 28-day venture, I am plainly more patient than a dice-shooter or a poker player or a daytrader with his unwritten rule, "Never hold a position overnight." Horse racing became a gambler's sport because it is fast--once around the track, very little waiting--and many traders want stocks, options and futures to wear horse-shoes. A spreader buys options at the long end of the spread and sells other options at the short end, just as a dealer in watches or a haberdasher buys a business and sells wares. Financially, to think in terms of more than a week is more entrepreneurial.
Regarding how large a profit should be called "worth it," I considered 25% in four weeks a weighty prospector's nugget and a fine buffalo hunt. Obviously, I did not expect $1,000 to grow into $10,000 between the Monday pizza and the Saturday veal parmagean. Those who do are the ones who start out for the gold fields and end up in the Chief Thunderbird scalp collection. Taking a business-like approach means aiming for realistic profits and gaining consistently, not trying to be a millionaire overnight and getting massacred with thousands of others who grab for the same million.
I do not wish to portray brokers as fiends. Many of them are quite ethical, but too many reach out to the roulette-player rather than the adroit business-person in people. You have probably seen the TV commercials for a large brokerage chain aimed at, "Those with a passion for trading!" Using the words "obsessed" and "addictive," it flagrantly courts those who cannot keep their fingers off the PC keyboard i.e., folks with an antsy itch to get a bet down. Plenty of commissions there. Those commercials do not say, "Learn the nuts and bolts of a new business and handle it intelligently." Nor do they say, "Give the self-training at least as much effort as a bar-owner does in learning how to mix drinks."
Some insightful people might say, "Did you ever try to enroll horse-players in a university finance course? If a lot of traders or potential traders won't strain their brains with anything as complicated as a drink-mixing manual or a 'wines of the world' book, well, that is the level that they gravitate toward and operate on. Getting crap-shooters interested in U.S. Savings Bonds is next to impossible, and that doesn't even put a demand on their brains. There's such a thing as expecting mental gymnastics from the wrong people."
Granted, but business requirements are business requirements. Every enterprise, occupation and activity demands specific skills and know-how, and levels of competency whether explicit or implicit, achieved or fallen short of. Slot machines require no skill but are a sucker's game. Self-deception sets in when a pad & pencil roulette-player seeks patterns and thinks he can make a "science" or a "business" of the wheel. Film makers and photographers, beauticians and antique-restorers and electrical engineers all have their skills and levels of competency.
Investing, trading and brokerage can be business-like but, in practice, too often drop to the slot machine level of zombie-like forking over or the pad & pencil roulette level of barstool science. The Wall Street Journal (March 11, 1998) reported that the Commodity Futures Trading Commission has redoubled its efforts against "commodity investment telemarketers who promise quick profits through so-called seasonal trades."
"The CFTC's enforcement division says Hanover Trading Corp. took advantage of a number of unsuspecting elderly investors in the case . . . Individuals should be skeptical of high-pressure phone sales and promises of high profits with little risk. . . Furthermore, many of the elderly had no previous experience investing in commodities, they added."
CFTC deputy director of enforcement Dan Nathan spoke negatively of electronic media hard-sell of futures and options: "Anyone who turns on late-night cable or the radio will hear these solicitations. . . . We want to devote resource where we see a lot of people preyed on" through TV and radio.
Sure, the CFTC is a clanky and questionable Sir Galahad. Nevertheless, where in these high-pressure pitches does one hear, "Handle it like a business" or "Develop a head for this kind of thing" or "Study the manual before you fly?" No. After the tiniest risk-warning the law will allow, they dangle forth the possibilities of palatial wealth. This is on the level of street-corner huckstering and the hard-sell of deeds for swamp or desert and highway billboards from Atlantic City casinos proclaiming "Slot Machine Paradise." Happily, however, one need not pick pockets at a retirement home to have success in business.
God is in the details. One, subscriber to Commodity Traders Club News, a gentleman in Hawaii, wrote to me and asked how I chose which stock options to spread from those long newspaper lists. One begins simply by understanding which month is "near in time" and which "far in time." Usually the "near in time" is the month after the expiration date immediately ahead. Let us say, for example, that "right now" is late March or the beginning of April. Options with April expiration dates still exist but tend to be scrawny in price from having so little time-value remaining.
Therefore, you look to the May options as the potential "near in time" end of the calendar spread. Then you limit yourself to the ones with strike prices no nearer than four and a fraction to the prices of the respective underlying stocks. Within those, you further limit yourself to those having at least two or two and a fraction points in value. That should eliminate all but a handful from the semi-finals of your consideration.
For example, near the close of January, I bypassed options with February expiration dates as too meatless and focused on March and April for the potential near-in-time short end and far-in-time long end of the spread. IBM stock fluctuated around 98 & a fraction/99 & a fraction and seemed to have found a floor in the upper 90s. This meant that IBM call options with strike prices of 105 were sufficiently out-of-the-money and a call-value-sapping fall of the share-price seemed unlikely. Best news of all: The March calls traded at 2-3/16 bid; 2-5/16 ask, last at 2¼. The Aprils 3-3/8 bid; 3½ ask, last changing hands at 3-3/8.
On other stocks in Jan., most March options that far out of the money sold for less than two points, many for less than one. That is why finding a near-in-time option with at least two points of meat on it takes some searching and eliminates many. That large newspaper page of put & call listings will shrink substantially once you impose those requirements. You will have few to choose from, not many, and "few" is only right because you should be picky.
In the above example, the gap between the two bid figures was 1-3/16, as was the gap between the two ask figures. Rounding it off a sliver to the generous side, I chose 1¼ points as the "debit" or difference when I sold the 10 Marches and bought 10 Aprils. This four-week boar hunt pinpoints a couple of rules and guidelines that I hammered out during a few years experience. For one thing, I practically see "2 & a fraction/3 & a fraction" in my sleep. That is, most of my spreads begin with a near-in-time sale at 2 & a fraction and a far-in-time purchase at 3 & a fraction. Note that the above-described IBM call spread fits that patterns.
Another key is the precise size of the debit, i.e., the amount invested plus commissions. When you get back a quarter and a nickel, whether they contain any profit depends on whether you ventured two dimes or a half-dollar at the start. Think small at the opening stage. At least, as small as is practical. "No money down" ain't the name of the game in options and spreads. The timid person wants to risk nothing or almost nothing. The avid gambler bets too large and thus rigs the numbers against what he gets back containing a profit. The Buddhist's "middle path" and the cornhusker's "happy medium" have a place here.
To be precise, a single-point spread is golden (example--sell 2¼; buy 3¼) but hard to find in actual practice. Do not bypass good nuggets while insisting on a one-pounder. A 1-1/8 point gap (sell 2-3/8; buy 3½) is less rare. Regard 1¼ and 1-3/8 as (a) more abundant and (b) usually good investments. (Examples: Sell 2-3/8; buy 3-5/8 and sell 2½; buy 3-7/8). Above this, we arrive in cautionary territory. A while back I took a medium-sized profit with a 1½ point spread and a smaller one with 1-5/8 points. Now I avoid 1-5/8 points and half-avoid 1½. I do not rule out the latter but the fruit boughs have to hang especially heavy for a rule in.
The larger the opening spread, the smaller and more strained the profit if there is a profit. A beginning situation of "sell 3 & a fraction/buy 4 & a fraction" is all right if it fits the other requirements, but usually it does not. Either the strike price is too close to the share price, requiring that you pull out after a few days if your short end crosses to in-the-money. Or both the near-in-time and far-in-time are several months into the future so that time-decay (the gap-widening shrinkage of the short end or sold end) happens at a penny a week for the longest time before it nose-dives into dollars during the final month or two.
One iron-clad rule and sound business practice that I mentioned in the past still stands: That the short end of an option spread should pay for more than half of the long end and preferably close to two thirds. Selling at 2 & a fraction, buying at 3 & a fraction, and limiting the spread or debit to not far over one point all help to fulfill this requirement. Also, previous articles opined that an option spread strategist should also be a trend tracker, positioning a call spread over a rising stock and a put one under a falling stock.
A share's meteoric move in the wrong direction can bleed the long-end options white. The fact that a strategy as described above is mostly other people's money provides armor and buffering but not total protection. I did recommend also call spreads over stocks with conservative price-earnings ratios and put spreads under shares with inflated PEs. During the recent galloping bull market, I have found it necessary to rank trend over PE and concentrate on calls.
In authors' journals, an article will list 10 rules for writers and then will say, "Break one of them if you have a really great reason to." Such an amendment could be applied to traders but is 20 or 30-times more dangerous. Too many speculators and other tycoons have made vast profits and then scrapped their hammered-out rules, guidelines and safeguards. Their ghosts haunt the bankruptcy courts. Their success intoxicated them with the notion of "I'm a wizard and can't fail." They abandon methodologies and related precautions that made them triumph and think that "brilliant me" is all they need for the next financial safari into head-hunter land.
Did my expedition suffer a loss that makes me preach against relaxing one or two rules? No, just fewer diamonds from the jungle mines. In early March, Computer Associates and Computer Sciences were both in the news due to the former's attempt to buy the latter. Both were sound companies according to printed indicators, not infallible but here there seemed no reason to doubt them. Computer Assoc. stock was rising gradually but steadily and had a PE in the upper 20s. Computer Sciences bounced around share-price-wise amid take-over talk, with a PE just over the 30 mark. The former thus seemed the better prospect for a call option spread.
On March 6, 1998, Computer Associates stock traded at 50 and a fraction, or 4 and a fraction from the April 55 and May 55 calls. The Aprils traded at 1½ bid; 1¾ ask, last selling at 1¾. The Mays at 2-5/8bid; 3 ask, last changing hands at 3. The bid figures were 1-1/8 points apart, the asks 1¼ points. A try for a 1-1/8 point spread could succeed, but a problem loomed. The prospective short-end Aprils had value of less than two points. Less time-decay profit potential. Notwithstanding fewer guns for the safari, I instructed the broker to buy 10 May 55s and sell 10 April 55s with a debit of 1-1/8 points, both to open a position.
The results came that day. I bought at 2¾ and sold at 1-5/8, a difference of 1-1/8 points or a cost to me of $1,125 plus $100 for the two (buy & sell sides) commissions. In the weeks that followed, Computer Associates shares climbed gradually but the widening of the spread or gap was slow, happening in tiny increments. On March 25, the stock rose small fractions into the money (55-1/16, 55-3/16) before closing barely out of the money at 54-15/16.
The spread had widened little more than was needed to cover commissions. Nevertheless, the next day, March 26, saw the CA shares cross 55 early on and inch up in fractions toward 56. Hit the ejector switch. Only it was more complicated than a simple bail-out. The April 55 calls were at 2-3/9 bid; 2-7/16 ask, last trading at 2-3/8. The May 55s, 3-5/8 bid; 4 ask, last selling at 3-7/8. What if I pulled out by telling the broker, "Buy back the Aprils at the market and sell the Mays at the market to close the position?" Usually when you say "at the market" you get the worst prices available; in this case, a buy-back at 2-7/16 and a sell at 3-5/8. A gap of 1-3/16 points. A gain of 1/16 before commissions and a loss of about $140 after.
I had to try to buy back the Aprils at less than the high figure or ask price and sell the Mays at more than the low figure or bid price. This is best done when they are not trading at their worst figures, i.e., when they are trading at higher than their bid and lower than their ask. For example, the Mays last traded at 3-7/8--above the bid and below the ask. So I told the broker to sell the Mays at 3-7/8. With the Aprils, the bid and ask were only 1/16 of a point apart. I did not want to take the chance of missing a buy-back over so small a difference so I said to "buy them back at the market." I figured that the worst that could happen was the 1/16 over or more than the 2-3/8.
"At the market" introduced one more hazard. April's ask price went up an additional 1/16 so I bought back at 2½. The Mays did sell at 3-7/8 as desired for a closing spread of 1-7/8 points. A ¼ point gain after commissions came to within pennies of a $50 profit. This 4.08% net in precisely three weeks annualizes to a fraction over 70%. U.S. Treasury Bills (shorter term than long bonds) currently yield slightly over five percent per year. I suppose one should not complain when one receives almost a Treasury Department annual return in just three weeks.
Still, option spreading has accustomed me to bigger gains within fairly short time-spans. You can be sure that I am now more gun-shy about both "at the market" transactions and short-end options worth less than two points. Although no trade is risk-free and no rule fail-safe, "Sell at 2 & a fraction, buy at 3 & a fraction now has the look of a very handy pocket sextant, with the newspaper option-listings as the nautical almanac. One should be grateful when profiting with business-like consistency in the "massacres & replacements" field of options and futures. Grazie, spread strategies.
My attention turned to an old book with a bookmark. The volume was Robert Tristram Coffin's penned-in-Britain essays The Book of Crowns & Cottages with the bookmark on page eight, where the author takes us inside a chapel as evening falls on post-World War One Oxford University after "football" (rugby or soccer in England): "What if Wren's chapel has nicks on its portals; . . . the College is richer by these tokens of wear [and the] carvings of faded gilt lying in the very midst of life, among fresh faces flushed with football and October winds glowing in the candlelight of vespers."
One CTCN subscriber, a medical doctor from California, told me that he really liked my articles' references to art, literature and cultures but I never got it in writing. The "bookmark" was a letter from a businessman in western Pennsylvania: "Your paragraphs about the fine arts support a stereotype. You know, the investors looking at works of art and going to the opera. Where is the carriage trade with the Dalmatians? Please be informed that many of us traders are regular guys, and proud of it. We shop at K-Mart and we talk sports over beer and cold cuts."
He should see me in front of the late-night TV, munching Genoa salami and Swiss while watching the Bowery Boys. However, we need not indulge in "regular guy' one-upmanship. Plenty of Wednesday night poker-players think that filling an inside straight qualifies them for "mercenary duty in the banana republics" of stocks, options and futures. Little republics, big cemeteries. Often the sports page devotee is the recoiler who says, "Learn a new business at my age?" then trades on hunches and hearsay.
If hand guns could be owned only by people who know how to disassemble and re-assemble them, there would be far fewer barbecue party Wyatt Earps' shooting themselves and others. Columnist Art Buchwald complained "My next-door neighbor owns a gun and he can't even handle a garden hose right." Is the situation any better regarding "passion for trading" good old boys with eager fingers accessing the Internet? The "passion for" doing this or that is seldom accompanied by a "passion for" learning the relevant engineering in any depth.
Several years ago, my father and I saw Italy as members of a bus & hotel tour group. As the bus neared Genoa, a 72-year-old man in the group, a retired schoolteacher from Alabama, said of Columbus, "He proved the world was round. Everybody thought it was flat until he proved otherwise." No one disagreed.
The tour group kept getting escorted to "Junk shops" in city after city, furnishing and bric-a-brac showrooms, presumably the result of a kick-back arrangement between the merchants and the tour company. In Florence we saw the Michelangelo David, the Florentine Baptistery, and a merchandise showroom. During the "Go where you like" hours, I went to view the artworks in the Uffizi Gallery and the Pitti Palace. Only rarely did I meet another member of the tour group there. They submitted more readily to the huckstering than to the culture, and felt no loss at missing the treasures of Botticelli and Vasari, Cosimo and Correggio.
In Verona we were led to a burnished balcony overlooking a courtyard. The tour company guide stated, "Legend holds that to be Juliet's balcony where she was courted by Romeo." Recently, I saw a TV travelogue that played up Verona as "The City of Romeo & Juliet," with close-ups of the balcony. Neither tour guide nor travelogue mentioned the city's greatest artist--Paolo Caliari also known as Paul Veronese. When "regular guy" fallacies come, they come in a crowd and do not leave a restaurant table or a train seat for truth.
Whether the ancient Egyptians knew the world was round is not certain. Definitely the ancient Greeks did know. During the sixth century B.C., the Greek philosopher Pythagoras determined that the world was round through inductive reasoning. He saw that the sun, moon and planets in the night sky were spherical, and inferred that the entity on which he stood was also. Aristotle (fourth century B.C.) discovered visible physical evidence of the world's shape. He explained that during a lunar eclipse, the earth threw its round shadow on the moon for all to see. Christopher Columbus' calculations utilized ancient Greek writings that many other Europeans had been reading for centuries.
In English Elizabethan drama of the 1500s, girls' roles were played by boys. Consequently, to show lovers embracing and kissing would have spoiled the illusion. The reason for the balcony on the Shakespearean stage was to keep the lovers apart. The plot of Romeo & Juliet dated back to Ovid (died A.D. 18) and was originally set in Babylon. Anyway, Shakespeare would not have known Verona from Cincinnati.
Yet the city with the courtyard had its real gifts. One of the masterpieces of Paul Veronese hangs in the Vatican--St. Helena Dreaming of the Cross. Frank Preston Stearns wrote "She is dressed in the richest silks and wears an elaborate jewelled coronet; but she is asleep in her chair--not in a deep sleep, but a transient doze--and a large wooden cross appears in a dream before her supported by a cherub. Her face is beautiful, but with that slight modification which sleep gives, and her hands--one drooping, the other supporting her head--are still more beautiful. At her side is a marble column, and behind her chair a richly figured damask curtain."
How is that for mixed-message art? The way of the cross handled with sensuality and allure! Real artworks have greater beauty and sweetness than the bogus balcony or the dime store romance formula-paperback, but "regular guy" fallacies die hard. In trading and investing, they can be poison both culturally and financially. Same with female myths.
The Beardstown Ladies have caused quite a flap. Their 1995 book The Beardstown Ladies' Common-Sense Investment Guide became the biggest of big news and has sold 800,000 copies since its release. These 10 women with an average age of 70 were the subjects of many newspaper pieces and were interviewed on TV nationwide; several became paid consultants for pension funds. At the center of all this popularity was a portfolio which supposedly "put the experts to shame" with a phenomenal track record of 23.4% average annual gain over a 10-year period from 1984 to 1993, during which time Standard & Poor's 500 averaged only 17.2% yearly.
How? Allegedly via the stodgy method of buying stocks in solid giant companies and holding on for the long pull. "The old way works!" came the message from the Beardstown, Illinois, heartland where the women had their investment club. The trouble started in early 1998 when a Chicago Magazine investigative article said that the members' monthly dues ($40 each totalling $4,800 yearly) had inappropriately been counted as profits, so that the dues alone accounted for a double-digit portion of the supposed gains.
However, the club's long-time treasurer Betty Sinnock followed up with a different explanation: The portfolio's profits averaged 23.4% for a two-year period, 1992 and 1993, and this was erroneously entered as the average annual gain for the whole 10 years. Alas, this did not alter the spuriousness of the bottom-line. The real average yearly profit for the much-publicized, claim-to-fame decade was 9.1%. The best-seller had exaggerated by 152%. It put the gals' home-spun cheering section to shame.
Those who praised the Beardstown Ladies' cookie jar virtues had overlooked the hazards of kitchen table accounting. The episode receives mention here for reasons other than the numbers. Before the discrepancies arose, ABC-TV's 20-20 attributed the ladies' success to such heartland virtues as hard work and church-going. After the facts intruded, Frank Rich wrote in the New York Times OpEd page (March 21, 1998): "The Beardstown Ladies were, literally, a G-rated Disney package--archetypes from Main Street, U.S.A., published by Disney's Hyperion Books--so the public and reporters alike threw skepticism aside."
So what does culture have to do with trading or investing? The Disney people sure got their G-rated maple syrup/covered bridge culture into the portfolio cake mix. All it lacked were Dorothy McGuire as the Wheat Belt mom plus a cartoon princess singing, "Wishing Will Make It So." Please fault not me for including some old Lombardy sunsets that inspired the palette of Paul Veronese in my blend.
The "regular guys" out there are urged to trade in a professional manner, not like passionate crap-games in back of McClosky's Bar, and to partake of the art exhibit at the bankers' club.
Dual Time Frame Trending the Trend - Andrew Abraham
As in our last article we feel it is imperative to only Trade with the Trend. Trends are made up of up waves and down waves and if we are in an up wave we would anticipate these waves to be larger and cover greater distances than down waves in an uptrend. The same applies conversely for down- trends. Here we would anticipate down waves to be larger than up waves. Keeping this is in mind we have devised a corollary to our trading strategy and we feel it offers many potential profitable trades.
What we suggest is use two diverse time frames. The time frame can be anything from a 10 tick and a 25 tick to daily and a weekly. There has to be a substantial difference however.
Some ideas to play with are:
· 15 minute and a 60 minute
· 60 minute and a daily
· Daily and a weekly
· Weekly and a monthly
· 1 minute and 5 minute
· 5 minute and 15 minute
· 3 tick and 15 tick
Really whatever you feel comfortable trading. What a trader should attempt to do is first identify the trend of the higher time frame. He only wants to take trades in that direction. The trader then wants to go to the lower time frames and find corresponding bars to take trades in the direction of the higher frame.
An example if we are trading 5-minute bars we would use a 15 minute bars on SP futures contract to determine the trend. Continuing our example we see we are in an up trend on the 15-minute bars and see blue up wave bars. We would go down to our 5 minute chart and look to first identify red bars (down wave) and prepare ourselves with a buy stop order to pull us in the market if an up wave becomes present (blue wave). The same would apply in reverse if on our higher time frame we know we are in downtrend we would go to our lower time frame to look for an entry which would in this case be an upwave (blue bars).
This concept is similar to buying or selling retracements or Fibonacci trading but with one major difference. The trader is trading with the trend and that is paramount to success.
In our systematic version of this we have included a volatility adjusting form of parabolic trend delineator. We think of it as almost a line of demarcation. When prices are above this line we want to be long and conversely when prices are below, we want to be short. We never want to have a trade on contrary to these rules. If so, we are neglecting another major tenet of good trading Money and Risk Management. If we have a trade on contrary to this indicator this is a sure clue the trade is not working and we are violating our rules.
When one trades, every trader must bear in mind that in order for success to be possible consistency and easily identifiable & familiar situations must be recognized. Trading using these types of indicators offers the trader the potential for this.
Marc Abrams would like to know if anyone is familiar with "Candlestick Forecaster" software. Also, are any experienced daytraders using Japanese candlestick techniques either as the only technical analysis tool or in conjunction with western analysis tools? I can be reached at firstname.lastname@example.org
George Freeborn, phone 562-424-0836 would like to get some opinions (pro or con) from daytraders who are using "Live Wire Professional" software.
E-Mail from Jeremy - (CTCN), Thanks for your very informative and free information. I can relate to a lot of the things you were talking about in some of your articles, such as Keltner Channels (which I use) and applying some discretion when trading. Your articles gave me a fresh perspective and a new outlook on how to better myself towards more profitable trading. I was wondering if you have ever heard of the KC Collection by the Futures Group accompanied by the book, "How to Become a Real-time Futures from Home" by Scott Krieger. The KC Collection is mostly a mechanical setup using Keltner Channels, 5, 9, 20-day x-ma's, peak/valley oscillator, and other useful tools to make trading easier. I have just begun trading the S&P 500 with this system and have had good results with it. More market exposure and knowing myself better should help me along even more, as well as signing up for your services. Which Mark Douglas book do you recommend the most in your article referring to him? I need to work on my mental behavior if I'm ever going to make it as a daytrader.
Brian wants to know if there are any trading clubs in the northern New Jersey or New York City area similar to the ones in Texas and California. Please reply via CTCN or call us at 520-226-0022 with information. P.S. -- Love the Real Success Tapes!
This issue marks the end of our 5th year of continuous publication of CTCN.
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