Let’s firstly take a look at AWB Limited.

Since early 2006, the price of AWB had been in a downward spiral. The story that eventually came out suggested AWB was doing some bad business against the UN sanction in Iraq. The initial shock sent the shares plunging by 18% in a single week.

This is a sure sign of a change in sentiment and it’s not exactly rocket science to know there must have been some kind of bad news that changes the outlook.

But what is important here is that this significant sell off is actually the first sign that strength may start to appear in the near future. As I discussed in the first article, demand strength actually starts in price weakness and here is a sign of capitulation. A wide ranging bar on increased volume is a sign of panic and when we see panic we can usually expect that a bargain could be in the offering, but this is where the patience is required. What we usually start to see after capitulation is a transition from sellers to buyers. This transition has two important characteristics; firstly it takes some time and secondly prices do tend to drift lower. Let’s zoom into the AWB chart at Area 1 and also add our volume indicators.

Bar 1 is the capitulation; a very wide ranging bar and ultra high volume. Remember that ultra high volume is signaled when the volume histogram penetrates the volume Bollinger band. Bar 2 gaps lower but closes on the weeks high and does so on high volume. This is a sign that the Smart Money is interested in buying. There is no other way that prices can close higher on increased volume if buyers were not involved. Bar 3 however shows sellers returning; a push lower, a low close and another increase in volume. Bar 4 is the turning point and is a sure sign that buying interest is occurring. This is the time to start thinking that this market will turn higher soon. This bar shows a move to new lows but a complete rejection, i.e. a high close and very high volume. We’re seeing the Smart Money taking positions, even though the stock is drifting lower. Now take a close look at bars 5 and 6. What happens? Essentially they are inside days with a slight downward bias but look at the volume? There is none. Volume has dried right up. This means that sellers are done; they’re exhausted. Those that wanted to sell have either been fulfilled or do not wish to chase prices any lower. Bar 7 sees another probe lower, another high close and yet again a rapid increase in volume. Combined with bars 2 and 4, both of which show background strength, this is continued evidence that the stock is being accumulated. It’s only a matter of time before enough of the supply has been accumulated that prices will start to rise again.

For the next 2 months AWB rallied 34% off that exact low. The first signs of upward price momentum would be the signal to initiate longs. We have the Smart Money footprints in the volume so we just need to time the entry for our own comfort. Take a look at the bars from that low. All down bars had low volume; all up bars had high volume. There was a specific transition from sellers to buyers which led to a reasonable, albeit unsustainable, price rise.

The following chart shows that advance in more detail. Bar 8 was a very promising bar indeed; a wide range higher, a high close and a good increase in volume. With the high close we can deduce that buyers had the control. Bar 9 is an important bar for current longs. It shows an attempted push higher, a reasonably tight range but more importantly a weak close and solid increase in volume. This is the first time that sellers had come back to the market. Now these sellers can originate from two sources; either profit takers that bought at lower levels, after all, it was a rapid rise in quick time which will always create profit taking; or it is very old longs who were waiting for the evitable bounce to get out of their positions. We’re not to know which, but what we do know is that selling has emerged and that caution is required.

Bar 10 shows a rise into new recent highs but a close on the absolute lows. This is of paramount importance – what does it mean? Bar 9 identifies sellers because we had a weak close on high volume. Immediately following, Bar 10 shows a low close on low volume, which suggests buyers have disappeared. If buyers have gone, who is going to support the market if those sellers from Bar 9 decide to chase prices lower? Nobody. If there is no buyer demand or buyer support then prices have the risk of falling until buyer demand comes back again. And that is exactly what has occurred.

Let’s move forward to Area 2 where prices fall through the early lows set in Area 1. Please refer to the following chart.

Bar 11 makes a low at $3.57, has a close off the lows and shows a mild increase in volume. The $3.57 level is important because the lows made on Bar 7 were at $3.55 which is where the prior buying entered the market. It could be easily argued that we will see those buyers back again at this level. So the minor increase in volume and a close off the week’s lows is an important sign when they correspond with an old low to the left. Prices continue to drift lower as weaker hands stop out below the lows made earlier in the year. However, although Bar 12 closes off the lows it’s quite a low volume bar not quite conducive to a significant change in supply and demand. Prices move sideways on low volume until we see Bar 13 take out the major lows and close on those new lows. The difference here is that volume is poked up through the volume Bollinger band suggesting ultra high volume. Again, this is probably a sign of capitulation as it’s a clear break to new lows suggesting sellers in control. But look at bar 14. Is that not the very same thing we started to see on Bar 2 of the first chart? A wide ranging bar down, a high close and massive volume. In fact this could almost be construed as a blow-off low, although the range is not quite wide enough for a text book example of such. Nonetheless it does show that buyers are in again. The following bar is a down close but volume has dried up – sellers exhausted? Bar 15 takes out the lows of bar 14 by 2c before rallying hard and closing high. Again, volume was very high suggesting that buyers are stepping up to the plate.

Interestingly enough this current price/volume activity is occurring immediately before the findings of the Cole Inquiry. Does the Smart Money know the outcome already? Remember in article 1 I suggested that good news tends to precede a fall and bad news a rally? Would the release of the report be considered potentially damaging news? Yes it could. We know the old adage that things look the worst at the low and best at the top but it is possible that volume is suggesting that the worst is over and that quite possibly we’re going to start to see prices trade higher.

The very last bar on this chart was the release of the report to Parliament. We have a probe above the small ledge but a lower close than the open and a rapid increase in volume. This is not an immediately good sign because it does suggest strong selling. Therefore we’d need to assess the volume/price relationship of the coming few weeks to better measure the willingness of the buyers seen at bars 14 and 15.

All in all, the relationship and volume/price is a very strong measure of subtle changes in supply and demand and can lead to both minor and major changes of trend. Therefore it’s beneficial for both traders and investors alike to really understand these nuances so they can better position themselves for new trades or offer warning signs for current trades.

The Hidden Strengths of Volume Analysis (part 2) is a post from: Share Trading Articles

I set up my charts with a couple of extra volume measures. I use a normal volume histogram that can be found with almost all software packages. However, if there is a larger volume spike skewing the ability to read the volume properly I will edit the data accordingly. Next, I add a 10-day moving average of the volume. This gives me a guide as to what is below average or above average volume on any given day. Lastly, I add in a 2- standard deviation of the 20-day volume average. Essentially this is like the upper Bollinger band of the volume average. This shows me when ultra-high volume occurs

Figure 1: Chart Setup for Volume Analysis

With these added extras we can quickly gauge the personality of the day’s volume as well as benchmark it against the surrounding volume. The exact volume reading is not important. The concept of relative volume is the key.

I’m going to make reference to The Smart Money throughout this article. The definition I use for the Smart Money is:

A group of professional users that act in unison at very specific levels and points of time to change the order of supply and demand.

The Smart Money are the one’s who constantly buy the lows and sell the highs. Let me say that this is not a bunch of traders ringing around attempting to manipulate the price. We don’t need to know who or why but these are the people we wish to follow. We do so by watching their footprints, and their footprints are shown within the daily volume. The Smart Money will show their hands by selling into strength and buying into weakness. As the Smart Money can change the order of supply and demand we can therefore ascertain that strong price action may in fact contain weakness and weak price action may in fact contain strength. I appreciate this may go against most things you’ve learnt about volume but it’s important to keep that thought in the back of your mind. Increased supply, and therefore weakness, may occur during price strength. Increased demand, and therefore strength, may occur in price weakness.

The first thing to understand about volume is that it’s not just the volume by itself we’re interested in. A major misconception is to think that for every buyer there is a seller and in turn volume is null and void. If that were really the case then prices would simply not move. What drives prices is the fear and greed of the buyers and sellers. It’s therefore the relationship and interaction between volume and price that shows us what is really occurring in the market. Think of volume as the effort of one side and the price activity as the result of those efforts. If sellers are desperate to exit then they will be more inclined to sell at the bid rather than sit back on the offer. If there is not much buying demand below the market then prices are going to be driven lower until those sellers are fulfilled or are unwilling to pursue prices any lower. Conversely, if buyers are desperate they will buy the offer and not sit on the bid. If buyers are desperate and there is not much supply above the market then you’re going to see prices move up until those buyers are fulfilled or unwilling to pursue prices any higher.

The mantra of volume analysis is:

“What is the result of the effort?”

The most basic example of a volume/price relationship pattern is a straightforward blow-off top or bottom. As technicians we all know what these are and we also know what they tend to mean. Figure 2 shows a perfect recent example of a blow-off bottom in Lihir Gold (LHG).

Figure 2: Typical blow-off low in LHG

The gap opening on that low day means sellers were indeed desperate. There is no other way to account for that gap except simple selling pressure. They over-ran all buyer demand until they were fulfilled. They even managed to keep pushing prices lower. But remember, previously I suggested that demand strength occurs in price weakness. LHG had certainly been declining up until that point. So, if there was no demand strength, how could prices rise from thereon?

The demand strength is shown by the effort and the result. Effort was certainly very high because volume was very high, in fact ultra high. This means a substantial number of transactions took place between buyers and sellers. But, what is the result of that effort? The result of that effort is that the market closed on its highs for that day which means that buyers have clearly over-powered the desperate sellers. When a lot of effort or a lot of volume takes place we know the Smart Money is involved because they are the big players and they are the one’s that can change the course of supply and demand. This is a prime example where the Smart Money has decided that LHG is a value buying proposition and they move into the market to absorb the selling volume. They are the stronger party. It’s the weaker hands capitulating. This is why I said that demand strength will appear on weakness. If the Smart Money have absorbed all the selling volume and the sellers are fulfilled, how can prices go any lower? They can’t, is the answer. And if prices can’t go lower then they will tend to go back up because now there is no overhanging supply capping the market.

Let’s look at the exact same concept but without the blow-off. Remember the core thinking; increased supply and therefore weakness may occur during price strength and what is the result of the effort?

Again we’ll use LHG but note this time the absolute high bar is a very small tight range and not the standard blow-off that we’re normally used to seeing.

Figure 3: The Smart Money appears at the absolute high

Firstly, the volume is extremely high, almost ultra high. We therefore know there are a lot of transactions taking place and in turn a lot of effort being put into the day. So what is the result of that effort? A very tight range with the close on the lows and below the open. What does it suggest? Clearly the sellers have overpowered the buyers. The buyers must have been desperate because prices have been gapping higher and they were most likely desperate from probable good news.

Ever heard the saying, “buy the rumour, sell the fact”? Do you ever wonder why prices go down after a positive announcement? Do you think the Smart Money knew the facts or the good news beforehand and the reason why they’re already long? I think so. So when the good news is announced to the market all the weaker hands jump in and start buying and the Smart Money take the opportunity to offload their positions into the demand strength.

Look at that LHG chart again in Figure 3. Prices were already trending higher. The Smart Money has already bought because they knew what was coming. When the announcement came they took their profits and sold their positions to all the latecomers. The force of buying from all the latecomers was large. We know this because the volume was high. But the force of the Smart Money selling and standing firm in the face of large buying was even larger and is why the days range was so small. If the Smart Money thought prices were going to travel higher, then they would not be selling and we would’ve had a wide ranging up day on light volume. But because the Smart Money knew that prices would most likely not go any higher, they stood their ground and simply offered their supply into the buying from the weaker hands.

Let’s think about what all those weaker hands are thinking at the close of that session. Good news has been announced. I bought the stock accordingly but it’s now closed below where I purchased it so I’m wearing a loss immediately. You can see them almost scratching their heads! Because the Smart Money had absorbed all the buying demand there is now no follow through buying demand. All the weaker hands are all of a sudden slightly nervous. Any slight weakness will see them exit their positions. They wait a day or so in wonderment but look at what occurred on the 3rd day after the high. A down day on increasing volume. Those weaker hands that bought the highs have had enough and are getting out whilst they can. They walk away with yet another loss but none the wiser as to why prices didn’t go higher on the good news.

So whenever you see a very tight range at new highs or lows that is accompanied with ultra high volume, you know the Smart Money is trading the other way. They are large enough to change the trend so you’d better listen.

These are two simple examples of reading volume correctly. There are many more to be aware of, but remember the mantra, “what is the result of the effort?”

The best book on volume/price analysis is Master the Markets by Tom Williams who is the Richard Wyckoff of the modern era. Its 190-pages packed with volume and price characteristics and I rank it as one of my top-5 trading books ever.

The Hidden Strengths of Volume Analysis (part 1) is a post from: Share Trading Articles

Unfortunately the decision making processes throughout our lives, including ongoing management of investments, are formed within our belief systems that in turn have been seeded by our early childhood experiences and, less so, our experiences since then. I say unfortunately because talking a person out of their misconceived investment beliefs is like trying to talk someone out of their religion. It doesn’t matter that they can’t demonstrate positive results. They believe anyway, and that is that. Of course that is good for the rest of us, because if some didn’t lose there would be nothing to win.

Your investment philosophy is driven by your beliefs. A person who uses fundamental analysis or technical analysis will not necessarily be any more successful or unsuccessful as someone who employs a monkey to throws darts. Investing is not a science where rules and laws apply but simply an arena where emotions determine what we want, how we approach it and how we deal with its outcome. If you are to succeed in investing, and in all aspects of your life for that matter, you must consciously want to achieve your goal and believe in your method in order to remain faithful to it.

Our beliefs operate on two levels, the subconscious and the conscious. The conscious level is where we think the problem lies and is where we create our excuses. The real problem usually hides in the subconscious. It gets tucked away because we don’t really wish to face the reality of the issue. Let’s use a simple, yet alarming, analogy: a habitual smoker who plays poker machines. This person has a serious conflict. In the first instance this person is bombarded by death rhetoric every time they light up. “Smoking Kills”, “Smoking Causes Cancer”, “Cancer Kills” and so on. Yet they continue to go for it. Why? Well the conscious part tells us that it’s addictive, it’s not my fault and I can’t stop. It’s the fault of the tobacco companies; they are to blame because they make it addictive.   The subconscious however is where the truth lies. There may be various reasons and these will differ between individuals. The reasoning of addiction is more likely to be denial of habit. Denial of habit suggests that the person does not have the discipline to give up or alternatively the person may in fact not want to give up. Probing deeper we may find that the person gets comfort from smoking, even though they know it may contribute to serious health issues. Why do they get comfort? Perhaps they feel it won’t happen to them. Smoking may cause cancer, but that happens to someone else. Here its ego at work, the “it can’t happen to me” syndrome.

Now lets look at this same person as they play poker machines. As we know these machines have a mathematical negative expectancy. You will lose money if you play long enough. No amount of luck will enable you to remain a winner, yet in our example our man continues to play. Why? Consciously there may be excitement, an endeavor to pass time or a social activity. It can’t be monetary because it’s a negative expectancy game. So on the subconscious level what is occurring? It again may be varying issues. It can be comforting; after all, a poker machine will never give you negative feedback. Nice flashing lights, pretty noises, the occasional sucker win but overall the environment is designed to keep you playing and is therefore comforting with positive feedback. The individual may not get positive feedback or the same attention outside of the poker machines. But ego may also be at work, in other words the “it won’t happen to me” syndrome. I am not a loser. I am lucky and I will beat the poker machines. But this is in direct conflict with their smoking habit. Cancer happens to someone else, yet winning at poker machines will happen to me…

The biggest difficulty for investors, and I see it every day, is giving back open profits. The market could, at any point of time, continue to go higher and increase those open profits, or it could go lower and decrease those open profits. Automatic thinking is that the market will go straight back down from where it came from and therefore these open profits will “evaporate”. I could tell you how to act properly in this situation but that won’t help you because it’s your belief system that’s driving you to think like that, and as I’ve pointed out, I can’t change your belief system. What is it in your belief system that makes you automatically think that open profits will evaporate instead of increase? Consciously it may be the fear of losing money or that you have earned the right to that money and you don’t want to give it back. Rarely when we go to work do we actually have to give our hard earnings back so why do it in the market? This is normal human thinking. But its also normal market behavior that prices gyrate back and forth and to dislike that is to lack understanding of how the market operates. We can never sell the absolute high because it’s impossible to know what will occur in the future. To have the attitude that the unrealized profits will decline says that you have an expectation of the future direction of the market, which is impossible. This is your subconscious at work. Why do you think you know where the market will go if a collection of the worlds greatest minds have no idea? Ask yourself why you think you know…

If you have no expectation of the future direction of the market, then all you need do is wait until some type of confirmation before you exit the positions. What that may be should be a part of your investment plan. You don’t have an investment plan you say…?

What about being unable to pull the trigger because of analysis paralysis? The more noise or input into the decision making process, newsletters, magazines, opinions, etc is commonly known as analysis paralysis and will usually do more harm than good. Even if there is valuable information buried within your research, the decision making process becomes impossible because of the noise, as does success. So is this conscious or subconscious? Probably conscious. So what’s driving it, what is the subconscious reason? It may be the fear of losing again, it may be the need for approval or it could even be the inability to take responsibility. If someone else has made the investment recommendation, then you are not to blame if it goes bad.

The easiest way to improve your psychology is to be aware of your own thinking. Before jumping into action that is not part of your investment plan, ask yourself why you are doing it. Then probe that answer some more. If you don’t have an investment plan then ask yourself why not.

Anyway, these are my beliefs and I’m sticking to them!

The Psychology of Trading is a post from: Share Trading Articles

The term ‘pyramiding’ refers to the adding of positions to an existing holding as the share price moves in the direction of the current trend. For pyramiding in bullish market environments this means adding positions as the price continue to rise. It does not refer to adding to positions as price falls. Adding to losing positions is a quick way to the poor house. The simple concept of trend following is to buy strength; buy high and sell higher.

The key benefit of pyramiding is that a clean and sustainable trend will allow excessive gains to be made with minimal additional risk taken. It could be argued that one single clean and sustainable trend can double or even triple a non-pyramided account return in any given year.

Obviously there are downsides as well that we will discuss later in more depth.

The goal of this article is to give you a solid working plan to help enable an effective pyramiding strategy should you wish to pursue it. Pyramiding does require a little extra work, a little extra commissions, a little extra frustration, a little extra risk, but over the longer term it should provide substantially bigger gains.

The most important element of correct pyramiding is to increase position exposure whilst at the same time keeping ‘manageable’ risks under control. ‘Manageable’ risks are the ones that we can directly control as opposed to those other nasties called ‘price shock’ risks which we’ll discuss shortly.

For this discussion we’ll define risk in terms of ‘units’.

One unit of risk, known as 1R, is the distance between the entry price and the protective stop price.

Consider the following chart:

Let’s assume our system dictates that the entry is $1.10 and the protective stop is placed at $0.80. The risk is $0.30 ($1.10 – $0.80), therefore 1R = $0.30. From now on all concurrent trades, pyramids and stops, will be based on this initial R calculation.

After entry is achieved at $1.10 we need to add or pyramid the position, although it’s best to calculate the ongoing levels prior in case a swift upside move follows. When dealing with a shorter term trend system one can pyramid all positions in a single session. However, with the Growth Portfolio, that allows some room to move, it’s rare that two positions will occur during the same session.

The first pyramid level is Entry + 1/2R, remember that R = $0.30, so 1/2R = $0.15.

Therefore, 

$1.10 + $0.15 = $1.25

It’s at this point that our risk does increase, albeit at a lower rate than our exposure. You can see in the table above that our position size has now doubled, yet risk has only increased by 50%. This is a tradeoff we must take in order to make the outsized gains we’re after.

The next thing to note is that at each pyramid level we buy the same amount of shares as the initial allocation. If you feel the extra risk is not for you, then buy a smaller parcel. It’s more important that the stop is kept away from the current action rather than tightened up to lower risk. In order to lower risk, buy fewer shares instead.

We have not finished yet. We can add three pyramid levels for a total position that is 4x the original, yet risk will always be retained at the 1.5R amount.

Once Pyramid #3 is in place we allow the underlying system rules to play catch-up. Because we have manually overridden the trailing stop of the system, there is s chance that we could be stopped out prematurely. Again, this is a tradeoff we must make.

Consider the following chart of NMS:

The following table shows a rapid increase in P&L when pyramiding is successful:

t’s important not to keep pyramiding. The trend has, in theory, a finite length. The more you add to positions the higher the chances of pyramiding into the end of the trend or creating such a large position the exposure becomes extreme.

The above table highlights one negative issue when pyramiding – it’s capital intensive. The amount of extra profit generated has taken substantially more capital, although if the trend continues unabated then this will become a much better equation. However, the extra capital will limit the amount of trades one can take and in turn limit the amount of diversification of positions. One of the key elements of the Growth Portfolio’s success is capturing outlying trends. The more positions one has the more chances of capturing the big trend.

A secondary issue is that we must override the system in order to keep risk aligned as much as possible. The above chart shows another position that was closed out at a small 10% profit. However, when we add in the pyramiding we actually finish with a loss.

Let’s walk through the stop loss amendments first. Remember each time we add a new pyramid we must move the stop up by 1/2R.

The system enters at $0.59 with an initial stop at $0.35. Therefore, 1R = $0.24 so 1/2R is $0.12. We add the first pyramid at $0.71 and move the stop to $0.47. We add the second pyramid at $0.83 and move the stop to $0.59. At this point the stock drops back considerably but does not trigger the stop. It then rallies hard and triggers pyramid #3 at $0.95 meaning we then move the stop up to $0.71. The average entry level is now $0.77.

Our stop loss is hit at $0.71 but we get filled at $0.70. The system proper exits a few days later at $0.66

A third issue with pyramiding comes out of the woodwork when some kind of price shock event occurs. A lot of times we view a price shock as an adverse price movement against us being part of a broader market movement. The 1987 crash and Sept 11 were two price shock events that couldn’t really be dealt with from a trade management perspective. 2008 was devastating but its not really a price shock as positions could have been successfully managed before account destruction took place.

But a recent left field anomaly that can do damage is the current ‘trend’ for capital raisings via rights issues. Some of these have been at deep discounts to current market prices and come without warning. Depending on the institutional take up and the ‘hang over’ of stock depends on what kind of damage will be inflicted. Capital raisings tend to have a harder impact and shorter term trading rather than longer term trend following, but its still a damaging hindrance when one is ‘fully loaded’ after pyramiding.

IMPORTANT INFORMATION: This article may contain advice that has been prepared by Reef Capital Coaching ABN 24 092 309 978 (“RCC”). Any such advice is considered general advice and does not take account of your objectives, financial situation or needs. Before acting on this general advice you should therefore consider the appropriateness of the advice having regard to your situation. We recommend you obtain financial, legal and taxation advice before making any financial investment decision.

Past performance is not a reliable indication of future performance. This material has been prepared based on information believed to be accurate at the time of publication. Subsequent changes in circumstances may occur at any time and may impact the accuracy of the information.

Pyramiding is a post from: Share Trading Articles

Is it possible for retail investors to navigate their way around these funds and take control of their direct SMSF equity investments for themselves and in doing so reduce these excessive fees and possibly generate better returns?

The answer is emphatically yes.

The ‘how’ comes back to the great article in Your Trading Edge Nov/Dec 2009 with Michael Covel, outlining trend following. We can substitute the term ‘trend following’ with ‘active investing’, that is, anything other than ‘buy and hold’.

In its purest form, as discussed and promoted by Covel, trend following is about participating in all market environments and using more sophisticated instruments to provide non-correlated returns. However, for our purposes we’ll stay with direct equities but ensure we only participate during bullish markets and ensure we revert to cash during bearish markets.

The key to outperforming the market is not being involved when these sustained bearish environments come along. How much would you have paid an advisor who told you to go to cash in late 2007?

The trick with applying this quite obvious strategy is disregarding the common belief that a declining stock price offers a bargain buying opportunity. It will, assuming the stock recovers. But Babcock and Brown didn’t. ABC Learning didn’t. Octaviar. Timbercorp. Great Southern Plantations. Allco Finance. Commander Communications. None of these once revered stocks will give you your money back. This is just the lineup from the most recent price shock. Remember HIH and OneTel?

There is also a very long list of stocks that have not gone bust but still sit so far below their 2007 highs that we can only hope that they’ll recover sometime during our lifetime. These include Stockland, Kagara Zinc, Keycorp, Aristocrat Leisure, Fortescue Metals, Sunland and Alesco. Again, the list goes on.

But every one of these stocks, bust or otherwise, had one trait in common.

They were all trending down for a sustained period of time before they imploded.

The following chart shows a common example.

Sunland didn’t just fall off the face of the earth one morning – it was trending lower for a long time before the bottom was found. For 3-years Timbercorp (TIM) and Great Southern Plantations (GTP) were both trending lower in a sustained fashion before they toppled. There was ample time to take defensive action and exit a position. We can look back in history and see the same nuances with other high profile implosions, such as OneTel and HIH Insurance. Both were in clear down trends for sustained periods of time before they went under.

But the prevailing thinking of ‘getting a bargain ’or‘ getting value’ is probably what made the vast majority ride these types of stocks lower.

When following trends we need to adopt a different thought process and disregard the populist view of ‘buying cheap’. Instead we need to remember that a stock in motion tends to stay in motion, up or down. Additionally we don’t attempt to predict how far a stock will go up or down. We follow. When the stock price starts to rise we jump on board. When it starts falling, we hop off and look for another opportunity.

The analogy I like to use is hitchhiking. Let’s say we wish to hitch-hike from Sydney to Brisbane. The first step is to stand beside the northbound lanes – we’d be in a better position to get a lift to Brisbane than on the south bound side (buy strength). Next, a car pulls over to give us a lift. At this stage we have no idea how far this ride will take us (we’re not predicting). It may take us to Gosford. It may take us to Port Macquarie or it may even take us all the way to Brisbane. What we do know is that we’ll take the lift regardless of how far it will go, but ensure we hop off when the ride finishes (defend the position or take profit when the trend changes). Once the ride finishes we’ll start the process again until we reach our destination or achieve or goals (with investing that’s to protect our capital whilst making some returns).

So what is a simple and effective way to become a hitchhiker in the stock market?

There are many ways to ‘follow the trend’. Some are better than others, but they generally attempt to do the same things. More advanced strategies will tend to have better risk adjusted returns than more vanilla methods but for our purposes here we’ll use a very simplistic strategy known as a breakout.

Entry Criteria: Buy when a stock rises above its yearly high. For our purposes we’ll use 240 trading days. If the stock does not rise above this level then we determine that the trend is still down and that we do not wish to be involved.

Exit Criteria: Exit a stock when it falls back below its 3-month low. We’ll use 60-trading days. Whilst the stock remains above this level we’ll determine that the trend remains up and we will continue to hold the position.

Risk Management: This is an area that could contain a complete article on its own. However, we’ll use a very basic and very conservative approach. We’ll allocate $10,000 per investment and have a maximum number of 10 positions. This means that regardless of account growth we’ll always have a maximum $100,000 invested. Using compounding, i.e. investing a set percentage of the capital to each new position will create a very different result.

Portfolio Management: Because the protection of our capital is of utmost important we should also look at the parts of the markets that tend to impact volatility. As a general rule of thumb, the top ASX-50 stocks show lower volatility, lower growth yet better dividend income. It may be beneficial for a more conservative investor to only focus on these top stocks. A more aggressive investor may wish to venture a little further out, but ideally not past the All Ordinaries Index, or the top 500. For our purposes we’ll stay within the ASX-300 to get a mix of some growth stocks as well as some lower volatility dividend stocks.

The following chart is a visual representation of the entry and exit criteria used in this simple system:

Assuming we held the stock, back in January 2008 the 60-day low was coming under threat signaling an imminent exit. At this stage we would not have known that the stock would completely collapse from $4.00 to sub-$0.50. We can’t possibly know the future but as the stock had started trending lower it was time to exit and take any profit that may have been offered.

Looking at the current 240-day high, our new entry level, we can see the stock is trying to lift its head and move higher. As at writing the buying level has not been attained. If the stock heads south again we won’t be involved. Only if it continues to rise will we hop on board like a hitchhiker catching a ride.

An important point to make here is that we use the same rules on every single stock. We do not attempt to pick the best parameter for each individual stock as this would detract from the long term ‘robustness’ of the strategy. The more you attempt to ‘optimize’ the inputs the less real world it becomes and the higher the chances that it will not work into the future.

Results

In todays market there is ample software available to enable traders and investors to evaluate their strategies before placing hard earned money into the market. Whilst historical testing is not infallible, it does allow fine tuning of a system.

For this exercise we have used commissions of $12.00 per trade but have excluded dividends and slippage. Because this is a longer term system, slippage is not so important (short term strategies would certainly require a degree of slippage to replicate the real world).  Dividends can be considered some extra icing on the cake.

Important Note: Past performance not indicative of future results

Since 1997 the hypothetical $100,000 had turned into about $800,000, an annualized return of just over 17% non-compounded. Not every year will be a winner, indeed the strategy lost 7% during 2008, but compared to the devastation that occurred across the global market place I’m sure many investors would have been happy to employ such a strategy. Another consideration with this graph is that it is based on the current constituent stocks of the ASX-300, which will differ to what made up the index back in 1997. It is impossible to accurately reproduce those constituents however the mathematical expectancy behind the strategy is sound.

The important issue with this ‘trend following’ strategy is that we were able to avoid the major bear markets. Since 1997, when this test was started, there have been numerous price shocks; the Asian Currency crisis, the dot.com crash, September 11, the 2002/03 bear market and the Global Financial Crisis we’re now coming out of. Adopting a more ‘active’ approach that encompasses following trends can offer positive performance yet places the control back firmly into your hands and removes the excessive fees and charges imposed by fund managers.

Trend Following – An Effective Strategy for your SMSF? is a post from: Share Trading Articles

Nick, tell us a bit about your history as a trader?

I originally got the bug after watching someone else plot a 5 and 10 day moving average crossover system by hand. I could see how and why the strategy worked, at least in its simplest form. From there I simply progressed through the ranks of working at various banks, both here in Australia and overseas, and taking on the passion. I have now been trading for 25-years, from the trading floor of the SFE to dealing rooms in London and Singapore. I have a passion and work hard at it every day.

You run a service today called ‘The Chartist’, can you tell us more about it?

The Chartist is a technical analysis newsletter and trading system portal. It’s all very good to read books that show picture perfect trades where 100% hindsight has been used, but to see the patterns on the hard right edge, to put a strategy around that and then manage the trade is what we do. The Chartist covers many facets of trading but the underlying pretext is always technical analysis. We now run four systematic trading models that I also personally trade alongside subscribers. The Chartist offers something for everyone interested in active trading without hindsight.

For those students who are learning, can you briefly explain what is technical vs. fundamental analysis?

Technical analysis is the study of price action which is the truth of the markets. Price activity is driven by fear and greed and because humans tend to operate on the same level we get to see the same patterns form over and again. Price patterns come in many distinct forms but added with solid trade management you can create excellent strategies. Fundamental analysis on the other hand is an attempt to place a valuation on a particular stock and therefore profit from a deviation away from that valuation. However, the major flaw in this logic is that deviations away from valuations are generally extreme – driven by fear and greed which in turns creates a state of difficult trade management. One only need look at fund manager performance during 2008 to see that fundamental analysis has some issues to contend with.

What predominately is your trading style; technical and/or fundamental analysis?

Without a doubt I’m a technical trader, albeit well versed in economics and fundamentals. However, there are sub-areas of technical trading such as systematic and discretionary. I have done both over the life of my career but almost all of what I do now is systematic. A systematic approach uses computer simulations to dictate buy and sell signals and tends to remove a lot of emotional input into the decision making process.

Have you always traded with this philosophy or is it something you’ve developed over time?

The irony is that the first time I saw trading work was with that 5 and 10-day crossover method when I was 18, and that was a systematic approach, I have deviated at times but always come back to that style of trading. My philosophy on trading and how a trader should act has certainly developed over the many years, but working inside the business for so long has helped that along.

What advice would you give to a student looking to get into trading? (education & experience)

The first piece of advice is that there is no easy way to make it in this game. Like any profession it takes passion and years of dedication. It doesn’t take a weekend course! I not sure how one develops a passion for anything, but if you have the passion then you will find a way to succeed. On a more practical note I would suggest that any dreams of trading full time be removed. Find a strategy that can operate with minimal time each day then stay employed. The power of compounding and application is what is required more often than not. People are too quick to want the end result now.

In your opinion, what is the best way a student should aim to enter the trading world and build a successful career?

Many industry jobs are not what people expect them to be. Many are sales jobs and today many are not really hands on market related. I know plenty of people who work in the business but because of electronic trading they really don’t have much to do in the way we used to do it. Being a stock broker or financial planner is more being a salesperson. You get paid by commission and funds under management. The best salesman gets paid the most money, not the best trader. Also to consider is that many people don’t have the stomach for risk which is why so many fail at this game. If trading were easy everyone would be doing it rather than working.

What is one thing a student can do to fast-track their learning curve?

There are two core parts to success in trading. The first is the quantitative aspects of the game – that is those ‘hard wired’ bits that you can follow along with and read about in books. Things like building a trading plan, using good risk management etc. Anyone can follow these if they have some discipline. The second is where it all goes pear shaped – qualitative traits. How to deal with losses. How to accept that losses and losing streaks are part and parcel of the game. How do you teach a person to lose? Confidence is another. When things get tough its easier to throw in the towel, place some blame on someone else or the market, then try something different. I call this the beginners cycle. Successful trading is quite simple, but people are their own undoing because they lack the required psychological traits to make it happen.

Traders will no doubt experience both good and bad days, can you remember one of your best trading days?

Whenever I execute my strategy I have a good day. After trading for so many years you need to stay level with emotions. Win or lose its just another day or another week or another month. If you get euphoric at a big win then by the same token you’ll get down when it gets tough. Have no emotion or expectation and you’ll be a lot better off in the long run.

Can you recall one of your worst trading periods and how did you handle it? (risk management & psychologically)

A bad period for me is not really about losing money. A bad period for me is when the market moves sideways for extended periods of time and we get chopped back and forth. It’s frustrating and difficult for most people to deal with. I always emphasize to people that success and profits aren’t linear. They need to think longer term.

What potential learning tools exist that students who wish to become traders should know about?

I think it more important that traders think through the maths behind profitability. They need ask themselves. “Why will this make money?” Let’s face it, we could place 200 successful traders in a room and we can pretty much guarantee that they all do different things. A new trader should work out the single common denominator amongst those 200. The answer is simple, but its absolutely vital to understand it.

What educational books would you recommend for beginner and intermediate traders?

I would recommend the first 50-pages of my book Adaptive Analysis for insights into the answer to the above. Secondly I would recommend reading between the lines of many of the famous trader interview books such as Market Wizards 1 and 2. Don’t just read the text. Read it then ponder what is really being said and understand it. I also highly recommend Complete Turtle Trader by Michael Covel. It doesn’t get any more real than that.

What are the biggest mistake beginners make when attempting to become traders?

If it were easy then everyone would never need to work again. The quantitative traits are easy which is what you’ll learn in books or in courses. Unfortunately you need to learn and accept the qualitative parts of trading in order to become successful.

What final advice can you offer aspiring traders?

Rome wasn’t built in a day. Like any other profession, it takes commitment and passion. It takes psychological fortitude above and beyond what most people can readily deal with. Much of this stuff can’t be found from a weekend seminar. Latch on to someone with years of experience to help guide you.

Interview with Nick Radge (by student2trader.com) is a post from: Share Trading Articles

1. How do I identify a list of stocks to work with?

It can be done through riding with the clean and sustainable trends. Money can be made by following big swings or trends that lasts six to twelve months in time. This is similar to 2009 trend which are very profitable.

Trading for the high beta stocks is also a good strategy. Know that clean and sustainable trends tend to be found to the ASX 100 through 300. Generally stocks under the ASX 100 are too institutionalized. They also tend to become quite choppy and back fill and does not show very sustainable trend. Above ASX 300 tend to become too volatile and illiquid and so you have to be balanced.

Those trending stocks tend to occur in small ordinaries. And it’s actually getting those newly-establish companies.

2. How does Elliot Wave Theory really work?

Following trends do really work but Elliot Wave does not make the profit. It just analyzes the market. It is good for analysis of bigger picture (2007 high, 2009 low) and it does work very well by setting bigger broader strategies.

It is also good and reasonably successful for buying dips rather than breakouts. But you have to pick out only pieces of the theory to be applied and build your strategy for it can only be use for trading in “isolation”. It is not used all the time in every single stock you look out but rather in in conjunction with common sense volume, support/resistant, divergence, classic chart patterns and several others.

The book “Dynamic Trading” by Robert Miner offers the best real world application rather than pure theory.

3. What is your preferred stop loss method?

The initial stop depends on time frame being traded. For example the Chartist’s Growth Portfolio have wider stops. ASX Systematic Power Setups or turtle strategy have tighter stops (approx. 2.5 ATR). Discretionary trading uses very tight stops and the essential to the success of The Chartist is trailing stops. This is done by following the market, trailing the stock behind the market, following the trailing, allowing the trailing to develop, and exiting when the trail turns.

4. What is an example of a good trading plan?

The ideal trading plan must suit ones personality. Determine how much time each day you have to allocate to the trading. Say if you have thirty minutes you have to find a strategy to implement it even with small amount of time. They do exist. If you do not have ample time or means or discipline to do that a service like The Chartist’s can really help. Most of all, you must have a positive expectancy employing patience and a good trading plan.

5. What is the most important personality trait that helps for trading success?

Aside from patience, perseverance, and tenacity which are all highly related to mental toughness, it is also important to know that this is not all about what is taught in seminars or books. You have to consider the two parts of trading according to Nick Radge. Quantitative which is apparent in seminars, books, which anybody can follow while many also fail in the end; and Qualitative, referred to as things that are difficult to teach, and takes time to be learned.

He gives an analogy like teaching your teenage daughter drive a car. The quantitative side is stay to the left side of the road, give way at the giveway sign, use the blinker to turn left and etc. These are the quantitative rules. The qualitative part is that she’ll have to learn what the traffic is doing around. Learn what the driver in the next car is thinking.

Furthermore, mental toughness and understanding that you have to roll through the bad times in order for the good times to come along should be understood. Because in trading there are some things that are actually difficult to teach, things that make the major difference between the winners and the losers.

Share Traders – Your Top 5 Questions Answered is a post from: Share Trading Articles

Stock selection without leverage has one serious drawback; buying $10,000 of BHP is very different to buying $10,000 of a sub-$10 stock and you will therefore find that capital usage in higher priced stocks is inefficient compared with lower priced stocks. A good exercise to prove this is to compare the price range of the stock over the last 200-days with its current price. Example:

BHP has a 200-day price range of $0.54 with a current underlying price of approximately $38.00. Using $10,000, you could buy 263 shares with an expected profit of $142 per day (0.54 x 263).

Compare this to ESG that has a 200-day price range of $0.036 with a current underlying price of $0.80, which enables us to buy 12,500 shares with the $10,000. Here the expected daily profit would be $450 (0.036 x 12,500).

In this example we’d get more “bang for our buck” by buying ESG and not BHP. So if I get a buy signal in ESG and one in BHP, I’d be better taking the ESG trade and foregoing the BHP.

The Bang-for-Buck simply filters the relative volatility of the stock in comparison to its price. As I pointed out above, buying $10,000 worth of BHP is very different to buying $10,000 worth of ESG. You may get the BHP trade correct but based on the capital used the results will not be overly efficient. We need to get our monies worth and we need to make profits with the least amount of work. You’d better off, over the long-term, to just concentrate on the ESG type trades.

To calculate the Bang-for-Buck filter, in layman’s terms, divide a $10,000 account by the closing price of the stock on any given day. This number is then multiplied by the average range of the stock for the last 200 days. The average range is the distance the stock has moved from high to low each day over the last 200-days. Dividing this number by 100 will convert the result to dollars and cents which inturn indicates the possible dollar return on any given day. The higher the ratio, the higher the profit potential and therefore selecting higher ratio’s will enable stock selection with potential for movement, which is what we want.

Bang-For-Buck Trade Management Strategy is a post from: Share Trading Articles

If you are in a relationship where finances are shared then it is your responsibility to know what you own, where it is held and the names or entity it is held in. If you allow your partner to manage your affairs, at least get regular updates on your financial position – monthly when the statements come in is a good
time. Ask questions. Keep a list of all accounts, assets etc in a safety deposit box or a safe, including how to access these if something should happen to your partner.

Fifty percent of Queensland woman who have retired or are retiring in the next 10 years “have less than $20,000 in superannuation and their superannuation will have to last 20 – 30 years” (http://www.women.qld.gov.au/resources/superannuation/documents/super-flyer.pdf). It is never too late to start saving for your retirement, however the earlier, the better. Talk to your accountant about the best way to manage your superannuation. It is worth paying for quality advice – there are a lot of tax benefits to investing in super, however you must ensure that your super fund is set up correctly to gain these benefits.

If you would like to take control of your financial future there are a number of steps you can take. Firstly, it is a good idea to become financially literate. The book to read is The Woman’s Money Book by Vivienne James. https://www.thechartist.com.au/store/Second-Hand-Books/Women-s-Money-Book-p216.html or http://www.allenandunwin.com/default.aspx?page=94&book=9781741141313. Written in down-to-earth, plain English, Vivienne talks you through the process of setting up a budget, simple saving strategies, the importance of insurance and quality investment advice.

Having seen the difference between people dying with a will and without a will, I would strongly recommend having a will drawn up for you by your solicitor. Your loved ones will have enough grief to deal with on your passing, without worrying about the complications that occur when a person dies without a valid will. Check your will annually. Is it still relevant? Does it need updating as your family gets older and your situation changes?

Life Insurance is another important consideration. Will your loved ones be able to manage when you die? Again there are a lot of factors to consider. This article may be of assistance http://www.moneymanager.com.au/planning/smart-guides/life-insurance-guide_1.html

If it sounds too good to be true, it is!
There are too many sharks out there waiting to get their hands on your hard earned money. It is important, before you invest or seek advice from a company or individual, to check the FIDO website to see if any complaints have been made about your provider: http://www.fido.gov.au/fido/fido.nsf. Whilst this is not foolproof, it is a great start.

Women and Financial Money Management is a post from: Share Trading Articles

Value for money
Whilst everyone deserves to be paid for quality services, if a product or service sounds expensive, then it is. If you spend too much on trading advice, education or training you will erode your trading capital – i.e. your trading account. If a company uses a hard sell approach, you may want to question their validity as well. A quality trading newsletter or trading education service will only need to use word of mouth to get you on board. If their clients are happy they will tell their friends.

There is a difference between trading and gambling. Which one are you being taught?
Trading comes down to a few very simple rules – you make money when the market is going up, you lose money when it is going down. If you are buying stock as the stock price is falling, hoping that it will turn around and make you money, you are gambling, not trading. If a stock price is trending up, chances are it will keep going up, and you will make money. Always have a trailing stop in place, so that if the price ceases going up, turns around and heads back down, you will be stopped out. If an advisor is suggesting you buy as a stock is falling, the only person who is making money is the broker.

Does your stock market advisory or education service hold an ASIC licence?
In Australia anyone offering financial advice must be licenced by ASIC. To gain an Australian Financial Services Licence (AFSL) a company or person must be able to prove that they have the necessary industry experience and education to offer financial advice. Very few trading educators hold an ASIC Licence in their own name or own company name. Most trading educators rent their licence from another entity. To check if your educator is properly licenced, ask them to provide you with their ASFL number and the name of the licence holder. Or you can check the ASIC website to see if they are registered http://www.asic.gov.au/fs

Ask to see their trading results
Your trading educator should be able to provide copies of their trading account statements. Make sure you specify the time period you would like to see covered. A lot of people make money trading over a short period or snapshot in time, however you are looking for long term results. Ask to see all their trading statements, not just the good ones. Better still, go with a company who ensure that they take the same trades they are recommending that you take.

Search the internet for reviews about the company you are thinking of subscribing to or joining.
The internet is a great place to find comments and reviews about stock market training companies and educators. ASIC have a website called FIDO – this is where you can search for companies that people have complained about or who ASIC have taken action against: http://www.fido.gov.au/fido/fido.nsf/byheadline/Checking+up+on+a+company?openDocument

Stock Market Training is a post from: Share Trading Articles