Sell in May? MAYbe not...

Here's an interesting chart on Investor Confidence Index from State Street Global Markets (http://www.statestreetglobalmarkets.com/en/ici/index.htm#cod)


I've seen some people citing this chart as an indication that investors are looking for a downturn in the market. However, if you look at the three places in this chart where there's a bottom (4/09, 11/09, and 2/10), they correspond neatly to lows in the Dow. The latest reading is lower than any of those. I'm currently over 36% in cash and was planning on "selling in May and going away". Now I'm not so sure.

In fact, looking at the last ten years of the Dow, the only time the whole "sell in May" thing would have helped you very much was in 2008, and that was quite an extraordinary year. Last year, it would have been a terrible strategy. As Jim Cramer said, it was more like "Sell in May, go hang yourself". So I'm going to continue looking for investing opportunites next month, but I'm going to tighten my criteria for suitable candidates and good entry points.

Market update: my overnight long ES trade last night paid off nicely with a 2 1/4 point gain and the market was indeed up today. I'm looking for more of the same tomorrow. Tonight, I'm taking a long NQ position at 2008.50 at 5:28 PM.

Sun Tzu and the Art of Trading

One of the most popular metaphors for trading is that it is like war. And one of the most famous military strategists was the ancient Chinese general, Sun Tzu. His work, The Art of War has become as much a staple at business schools as in military colleges.

If you haven't read this, you owe it to yourself. The whole thing is available online, for example at:

http://www.sonshi.com/learn.html

For a quick Reader's Digest condensed version of some of his more well-known quotes, you might check out:

http://en.wikiquote.org/wiki/Sun_Tzu

Here's one I like:

It is said that if you know your enemies and know yourself, you will not be imperiled in a hundred battles; if you do not know your enemies but do know yourself, you will win one and lose one; if you do not know your enemies nor yourself, you will be imperiled in every single battle.

The parallels to trading are obvious and the lessons are just as true.

Here's another good one:

Strategy without tactics is the slowest route to victory. Tactics without strategy is the noise before defeat.

When you trade, you are the general in command of your own army. Every dollar in your trading account is a soldier. The enemy is all around. I've found over the past two years that by learning to lead my troops more wisely I've come to achieve more victories and fewer defeats. And I owe a debt of thanks to Sun Tzu.

Market update: I'm looking for a rebound tomorrow. It may not hold, but I went long ES at 1182.50 at 1:39 AM. We'll see where it is in the morning.

Continuous Improvement

... or at least continuing improvement. One of my goals for this year is to implement at least one innovation every month that improves my trading. This month, I got three:

1. I discovered you can put pictures in Excel spreadsheets. Maybe everyone else already knew this, but I didn't. Now in my trading journal, I take a snapshot of the chart when I make a trade and cut & paste it into my journal. That way, I can go back and quickly see what the market looked like when I made any given decision. Everything is all in one place.

2. I learned how to use the Regression Trend Channel feature in eSignal. This turns out to be an interesting indicator. I'll be trying it out more next month and seeing how well it works.

3. I started looking at the Sharpe ratio and how I can use it as a performance metric.

Psychoanalyzing the Markets

My dad was a psychiatrist. He was also a very talented investor. I used to ask him how he was able to do so well and he told me that it was just a matter of "psychoanalyzing the market". He thought of the stock market as just another crazy patient badly in need of therapy. At the time I thought he was the crazy one.

Crazy like a fox, as it turns out. It's hardly a novel observation that the stock market runs on two things: fear and greed. Understand those, and you understand the market. I know, easier said than done. That's one reason I liked Dr. Brett Steenbarger's blog so much - he talked a lot about psychology there. "The market" after all, is just a reflection of the people who make it up. As a technician, I've recently come to believe that perhaps I should pay more attention to the psychology and the psychoses of the players.

Anyway, there's no shortage of proof on how this works. Consider the airlines. My dad deemed the airline industry to be "completely psychotic". He claimed that only a psychotic would get into such a business. And if you look at the lunacy going around the airlines these days, what with fares that change every five minutes and fees for all kinds of nonsense from pillows to carry-on bags, it's hard to disagree. I personally would not touch an airline stock with a 10 foot jetway.

Interactive Brokers First Quarter

Seeking Alpha (www.seekingalpha.com) just published a transcript of the first quarter 2010 conference call for Interactive Brokers, IBKR. This is of interest to me since I'm a customer. The whole thing is pretty long but here's a few highlights I found interesting (from http://seekingalpha.com/article/200629-interactive-brokers-group-inc-q1-2010-earnings-call-transcript?source=email&page=1):

"Year-over-year customer accounts increased by 21% to 140,000.
...
"This is evidenced by the fact that year-over-year equity per client account grew over 43% to an average of $119,000 per account even though more than 60% of our customer accounts are still small, having less than $25,000.
...
"Customer equity grew to $16.7 billion, up 74% from the year ago quarter and up 10% sequentially. The source of this growth continues to be a steady inflow of new accounts and customer deposits and, to some extent, customer profit." (emphasis mine).

IBKR took a huge pop after this, closing at $17.01 on Friday, a 5.33% gain.

It's interesting to note that over 60% of their accounts are under $25K, ie. they're not daytraders. It provides a nice benchmark for our own account siez, as individual traders. Of course, the average is $119K, meaning there's some heavy hitters in the mix. I'd love to see a curve of the account size distribution over there. I'd also like to know to just what extent "customer profit" contributed to their numbers. Remember, it's said that 80% of all traders lose money.

Anyway, I view all these numbers as positive news for the markets and the recovery in general. There's a lot of talk about us being in "a cyclical bull market in a secular bear market". That may be, but my own guess is that the bull still has some room to run. With "sell in May and go away" time approaching soon, I'll be moving my view to the longer charts to try and figure out when and if a correction might come.

Unorthodox Indicators of Improvement

Here's two indicators you won't find on CNBC:

1. The number of IFR (instrument flight rules) flight plans was up over 3% through the end of last year over 2008. This means more people are flying. Since the number of airline flights doesn't change that much, this increase is largely attributable to general aviation, ie. business and private individuals. Private planes being as expensive as they are, it appears that people are more confident if they can spend money on this activity.

2. I recently got an email from my broker hawking their low low interest rates and suggesting that I buy stock on margin, collect the dividends and pocket the difference. Hey - isn't that how the Great Depression started?

New Reading

With the imminent departure of Dr. Steenbarger, we're left with a big hole to fill for getting good market views. I'm going to start collecting the sources he cites, since it looks like before long, that's where I'm going to have to go look myself for information.

In today's blog, he cites these sources:

http://www.sentimentrader.com/
http://www.ttheory.com/
http://www.markettells.com/

(Don't know why the editor won't take these as actual links.)

RIP, Dr. Steenbarger

Today, Dr. Brett Steenbarger dropped a bomb on his loyal following, telling them that he's ending his enormously popular TraderFeed blog here on Blogspot. I am, I'm sure, among many who are sorely disappointed over this development. However, I have to say it's not entirely unexpected. It seems that whenever a blog gets too popular, it ends up going subscription-only. And that's a shame.

But can you blame him? Hey, money is money. If my blog ever got as popular as TraderFeed did (like that will ever happen), I'd probably do exactly the same thing.

Still, you can't help but having that feeling of sadness... We'll miss you, Dr. S.

On Goals

It's important to have goals when trading so you can tell how well you're doing.

When I first started trading, my goal was simply "to make lots of money". In retrospect, that was a silly goal. It was both unreasonable and too vague. After losing money for a few years, I revised my goal to "Make at least $50 every day". At least this wasn't vague. But it was also unreasonable. It's just not possible to have every single day be a winner. I still lost money.

So then in disgust I finally set up a new goal: "To not lose money". This sounds like a pretty weak goal, sort of like saying your life's ambition is to not be a crackhead. Oddly enough though, once I set that as my goal, I did in fact stop losing money.

Once I wasn't losing money, I picked a new goal. This time I decided that I should be able to achieve at least a 7% annualized return. If I couldn't do that, then I might as well just buy high yield bonds and spend all day watching TV instead of the markets. So far so good. Last year I achieved a 40% return. Of course last year was quite extraordinary. But so far this year, I'm just about at the same level.

Now it's easy to perform well when the market is up. The question then becomes, am I good or just lucky? So I also have one final goal: to outperform the Dow. It doesn't matter if the Dow is up or down, as long as my gains are greater and my losses are smaller. So far, that's working out too. I'm outperforming the Dow by around 2 to 1 this year so far.

ES Forecast for 4/19/10

"May you live in interesting times"

- Ancient Chinese curse

Well last Friday's action was certainly interesting, with the SEC on the one hand taking on Goldman, to what should have been the surprise of absolutely no one, and that volcano in Iceland spewing more ash than its name has vowels.

As I write this (1:25 AM EDT), I note that the ES is now down to 1185, down 5 points from the last close. I'm a bit surprised to see this, since looking at the SPX daily charts, we note that more often than not in the last six months, we've not seen a big down day followed immediately by further significant decline.

In any event, we're now near the 20 day MA in ES at 1180.50. If I had to guess, I'd say we could see a decline to that point early on tomorrow and then a bounce. If we go right down through that level, I'll consider going short. But note that there is a support level right around where we are now extending back to the beginning of April. The crystal ball just isn't all that clear tonight.

Recent trades: I took advantage of the sale on Friday to open small long positions in SLV at 17.38 and RFMD at 5.37. I'll consider adding to them tomorrow. In the meantime, I'm encouraged that my IRBT did not participate in the general chaos on Friday. I'm still waiting on that one to produce.

Trading Do's and Don'ts

Don't trade when you're angry, tired, depressed, distracted, or sick. And never ever trade when you're drunk (I just bought what?).

Don't trade based what on some talking head says on CNBC.

Don't trade what Cramer says just because he says so.

Never chase a trade.

Do let the market come to you.

Do have patience.

Do have goals, and make them realistic and reasonable.

Do keep meticulous records of your performance, every single day.

And most of all, do your homework. Every day.

Do good!

Preparing for Disaster

Dr. Steenbarger recently wrote about recovering from a disk crash. If you use computers for anything as important as trading, it is vital to have a rock-solid backup plan and stick to it. There's two main parts to this: data protection and connection protection.

Data protection

Here's what I do: I keep all my important data on the primary disk in my PC. This is all replicated on a file server on my local network. Whenever I change an important file, I copy it to the file server. Weekly, I copy the data to a separate laptop PC and make another copy on a removable hard drive. Whenever I visit my summer home, I take that with me and copy it onto the PC there. I have one more copy on a USB stick that resides in my safe deposit box. The key is multiple backups in multiple locations. Having two copies of your data sitting in the same room does you no good if you're struck by a fire, flood, or theft.

Connection protection

Just as bad is if you're about to sell some big position because the market is turning over and your PC crashes. That is very not so good. Here's what I do: I have my trading platform open on two different PC's during the trading day. Both are plugged into a battery backup UPS. I keep a lnadline and have a modem so I can resort to dialup if my cable connection fails. And I have my broker on speed dial so I can phone in an order if all else fails.

Of course none of this will help if Martians land on Wall St. and everyone in America is trying to exit their positions at the same time. But if you're trading for a living it's still important to do as much as you reasonably can to avoid that horrible "uh oh" sinking feeling when the screen goes blue.

Followup on storming the 11K level

Here's something I sent out yesterday to someone who asked me about market direction. I thought I'd share it here. Since I wrote this, we've seen two runs at the 10,850 support - both have held:

My last two trades were sells. I haven't entered a new position in a week now. I think the problem is a combination of the fact that we've had a long unbroken upward run that's running out of steam just before reaching a natural barrier (the 11,000 mark in the Dow). I think we're going to see a few attempts to push through 11K (see the last three days in the Dow) and they'll fail taking us back to the first support around 10,850. I think that will give the market a chance to rest and reload for the next charge. This sort of thing seems to happen a lot at these levels. Check out the action the last few times the Dow has tried to cross 11K (the first one was in 1999). Also, the VIX is about as low as it's been for a few years lately.

Assault on 11K

Well, it looks like the Dow, having closed at 11,973 today is gearing up for its initial assault on the 11,000 mark. The attempt is likely to come sometime this week, maybe tomorrow. And I predict it will fail. Just like it did in in early May 1999:

Note the similarities between then and now. My guess is that the Dow is going to spend some time bumping up against the 11K mark, then pull back to regroup for a second assault later this month that will be successful.

In the meantime I sold my stake in DRYS today at 6.19. I am now 32% in cash (mostly from appreciation) and waiting for some form of pullback to buy more. YTD, I'm up 11.1%

Near Term Dow Direction

With the second quarter just beginning, I thought I'd take a look at a larger view of the daily Dow going back almost a year (click on the image to get a larger version).

There's a few interesting points I see here:

First, notice how most of the lows are very sharp bounces (green arrows) but most of the highs are extended across several days before a pullback happens (red circles).

Next, note how today's up 70 point action put us back to the top of a now seven day trading range that is now peeling away from the upper Bollinger band.

Also, money flow peaked on March 17th and has been declining since then.

And we've gotten pretty extended away from the 20 MA. (I mislabeled this in the chart as "40" - it really is the 20 though).

What does this all remind you of? Doesn't this look a lot like the action we saw back in the beginning of last August? Notice how the RSI has been indicating an overbought condition for a while now, just as it did back then.

Of course, we can never be sure that history will repeat itself, but I'm starting to think we're getting due sometime soon for a pullback to the 20 MA, which now stands at 10,742. Oddly enough, that number is also exactly the support level established in the January peak.

BTW, notice how the stochastic provides a nice indicator of bottoms but not tops.

Dow Forecast for 4/1/10

Today's action played out about like I thought. Dow down 50 took us back to the bottom of the trading range established a week ago. With the ES posting non-trivial gains (up over 400) as of right now (1:45 AM EDT), I'm looking for some recovery tomorrow, though being the day before a holiday and with jobless numbers coming out, who knows. I think the Street has already baked in a good result there, so it's going to take some really good numbers to help out the bulls.

All in all though, I'm looking at the range bound trade and figuring that what comes down must go up. Also note that the Dow has been unable to pull in more than two consecutive down days (not counting small range doji days) since the tumble way back in mid-January. Nonetheless, I see no major buying opportunites right now. I did not trade today and don't expect to tomorrow either.

I ended the quarter up a respectable 9.6% YTD and was pleased to see that I had only three losing days in all of March, a new monthly record for me.

Dow Forecast for 3/31/10

As we approach the end of the first quarter of 2010, it is perhaps instructive to take a look at the weekly DOW chart:
Two things immediately stand out:

1. We have broken out over the previous peak of 10,724 set on 1/11. That level is now support.

2. We are rapidly approaching the resistance line at 11,000 (green line). This is significant both as a psychological level and becasue it represents the floor established in the summer of '08 before the big crash that fall.

Now comes the problem. After today's close of 10,907, we're also real close to the 200 day MA, at 11,133. If the Dow can make it past 11,000 and get to the 200 day MA, we should be good for another leg up. The question now is how much of a barrier will the resistance at 11K be?

Complicating the matter is that tomorrow is the last day of the quarter. One might reasonably expect some window dressing to go on, but that doesn't always materialize. But I also note that the daily Dow is only slightly above the pivot point of 10,887, so there's not much downward tug on that front. And the daily VIX is pretty much in the middle of its recent range on the way down with not much to suggest a reversal there. OTOH, the ES daily chart seems to be getting ready to turn over, having put in a doji yesterday and being down 325 in the overnight so far 2 AM EST).

And on top of that, this is a holiday shortened week.

My best guess is that not much will happen tomorrow. Of course, that's on a technical basis only. If our pal le president du ECB opens his mouth again, or if flying saucers land on Wall St., all bets are off. Right now I'm 26% in cash and have no plans to trade tomorrow. I'll just be watching and waiting to see how the attack on Dow 11K unfolds.

Latest Trades

I've had my eye on a few things since my last post, so here's a quick update.

C: I unloaded my 600 shares of Citi (C) last Friday at 4.36. So far, that seems to have been a good decision. It closed at 4.09 today. Keep in mind I'm a swing trader. I think that C has a long term potential to go higher, but with the US government threatening to unleash their 27 billion share tsunami on the market (at some unspecified point in the future), I'd rather wait til that's done before getting back in.

WFR: MEMC, maker of silicon chips for computers and solar panels. I bought this last fall, has spent the winter in the toilet, is finally moving again, looks like it may go higher. I'm finally in a profit position but holding on. I have a stop for half my position at break-even, letting the rest ride. Closed at 15.51 today, consensus target is 16.98. Should benefit from the alternative energy hysteria and the recovering economy.

GAZ: I took a flier on the natural gas ETF, GAZ last week at 10.28. It looked like it was putting in a bottom. I was wrong. I took a small loss after two days and got out. Glad I did too, since it went lower after that. Today, GAZ closed up 16 cents at 9.74. This stock (and the entire commodity) has been beaten down so hard for so long I really have to believe that it eventually has to rise from the ashes at some point. But since I now have another nick on my hands from catching the falling knife (again), I'm going to wait for some solid evidence of a turn-around here. I'm watching though.

AUY: Gold, gotta love it. AUY, Yamana Gold, is my favorite gold proxy, mostly because I can afford it at its present price of 9.81. It seems to be holding support in the $10 area, it's come way down from it's March high at 11.20, and I'm hearing noise about gold demand from China. I'm long AUY and looking to buy more.

SLV: the silver ETF. I went long last week at 16.57, sold yesterday at 17.03. I thought I'd get more out of it, but hey, you take what you get. SLV is at the top of its recent trading range right now so I'm not looking to get back in right away. But it's always a good play on a pullback. Silver never goes out of style.

IRBT: iRobot, the company that brings you the Roomba robotic vacuum cleaner, as well as bomb cleaning robots for the US Army. Being the lazy sort and a techno-geek, I love this sort of stuff. Plus, the Roomba actually works. It cleans my floors by itself leaving me more time to watch the markets. I took a flyer on this one yesterday afternoon at 15.58. They must have seen me coming because it promptly dropped 50 cents right after that. But it was up today a bit to close at 15.28, so I'm going to hang on a while longer. That's the beauty of swing trading - I can wait. I think it's going higher. It looks oversold on the stochastic, CCI, and RSI.

Disclaimer: I am long AUY, WFR, and IRBT. I have no other connection to any of these companies, other than owning some products from iRobot. (Hopefully it goes without saying that I am trading real money, not paper trading).

Weekly Performance Update

In a post in his wonderful blog today, Dr. Steenbarger asks the question

"Are you aware of the distribution of your returns?"

And I'm embarassed to reply, no I don't (or I didn't). Fortunately, I've been keeping very careful records of my daily results since last August, so I cut that data out of my spreadsheet, stuck it into Matlab and came up with the following histogram for 2010 so far (58 sessions). This represents the daily percent change in my net trading account balance (ie. I have accounted for commissions and fees):

Viewed as a graph over time, we see:

Overall, this isn't too bad. There are more up days than down days, and dispite one disasterous day (on 2/4, the day the Dow dove 271 points), this was still good enough to put me up 8.65% for the year. This isn't bragging or anything, just a point of reference. I'd be interested in hearing how that compares to other traders so far this year.

Dow Forecast for 3/24/10

Well, I sure blew that last ES forecast! At this point, after today's rally I don't see any real resistance up to the 11,250 level in the Dow. That's the big overhang from the killer fall of 08. I'll bet there's a lot of people who got caught in that and didn't sell on the way down. They're finally very nearly back to even. Once they get there, which shouldn't be too far from now, they're going to sell out of relief over having finally gotten their original investment back after having watched it sink like a rock through early last year. I'll be watching that level closely.

Latest trades: bought GAZ today at 10.28. I've been watching this for a while and it looks like it may finally have put in a bottom. Last Thursday's action looked like climactic selling to me, and the next three days put in three consecutive green candles, something it hasn't managed to do since last August. It's also reached oversold RSI levels on the weekly chart. At this point it's fairly speculative, so I only took a small position. We'll see how it plays out.

Meanwhile, gold and AUY continue to consolidate just above $10. I still think it's headed higher, so I'm just hanging onto it even though it's done essentially nothing since I bought it last week.