ZF Capital > 2010 July

Tradecraft – A Roll of the Dice

On July 30, 2010, In Good Articles, by ElfLord

THE ULTIMATE STOP-LOSS order is zero. Stocks can’t go any lower than that. And now and then, much to our dismay, investments get pretty darn close. Refco (RFXCQ) is the latest name to spiral toward worthlessness, joining the disastrous ranks of WorldCom, Enron and, more recently, Northwest Airlines (NWACQ). Since stocks can fall to zero, stop-loss orders must be part of every trader’s investment philosophy.

There are a million different theories on how to employ stop-loss orders. Some recommend a technical indicator, such as placing stops at the 200-day moving average or trendline support. Others use a percentage stop, selling an investment after it falls, say, 20% below the purchase price or a recent high. As with most disciplines, the key isn’t the approach you choose but rather being able to stick with it.

The main complaint I always hear about stops, and why many traders refuse to use them, is that they believe their stops are indiscriminately targeted by specialists. At the New York Stock Exchange, trading is overseen by firms, known as specialists, that make a market in particular stocks. That involves overseeing trading, matching buyers to sellers, and even buying and selling shares themselves when there are order imbalances. Conspiracy theorists — the same people who believe there was a second shooter in the Kennedy assassination or that rapper Tupac Shakur is still alive — suggest that specialists purposely allow markets to drop to levels where stops get hit, only to then allow prices to rally back almost immediately to previous highs. (more…)

Tradecraft – Trick or Treat?

On July 28, 2010, In Good Articles, by ElfLord

IN HIS 1933 INAUGURAL address, President Franklin Delano Roosevelt told us that the only thing we have to fear is fear itself. That might be true in politics, but when it comes to the investment world, it’s the lack of fear that has me most concerned these days. Despite a number of worrisome developments in recent weeks, there’s scant evidence that the equity markets have demonstrated any serious concern.

Why should bulls want to see fear? While it’s uncomfortable to experience, when it comes to stocks fear is a great contrarian indicator. In the market, significant fear usually marks a reversal. By the time we get fearful, it’s usually too late to capitalize on the trend that prompted our concern. So if today’s markets were exhibiting more signs of fright, a bullish argument could be made that the major indexes’ fortunes were close to turning. As I’ll outline in a moment, I have yet to see any indication that’s occurred.

Let’s review a bit of the damage that’s transpired recently. Since the beginning of October, stocks across the board have weakened, quickly slipping from the summer highs that saw the Dow near 10700 and the S&P at 1240. Year-to-date, all major indexes are now firmly in the red, with the S&P 500 down 2%, the Dow off 4.6%, and the Nasdaq 5% lower. Leading the way downward have been many widely held financial stocks, with JP Morgan Chase (JPM) and Bank of America (BAC) both lower more than 10%, and mortgage lender Fannie Mae (FNM) off by more than 35%. Dow 10,000, last nipped in mid-April, once again looks well within the market’s immediate reach. (more…)

Tradecraft – Choose Your Battles Wisely

On July 26, 2010, In Good Articles, by ElfLord

IT’S SUN TZU’S FIRST essential rule for victory: He will win who knows when to fight and when not to fight.

There’s always a bull market somewhere in the world. But there are plenty of times when a trader should consider being less than fully invested — that is, to know when not to fight.

At any given moment, even after-hours or overnight, traders consciously decide which risks, if any, they wish to bear. I certainly empathize with owners of Delphi (DPH) stock, Worldcom (MCI) options or Northwest Airlines (NWB) bonds, but let’s not forget there is no constitutional obligation to hold them in a portfolio. Successful traders bet only on situations in which they believe the odds are in their favor. The golden rule: When in doubt, stay out.

The trades you should avoid like the plague are whims, distractions or trades made “for fun.” Friends, don’t trade for fun — trade for money. The positions I put on when I feel bored are almost always guaranteed to wreak havoc on my bottom line. (more…)

Tradecraft – Profits Trump Patriotism

On July 23, 2010, In Good Articles, by ElfLord

I LOVE THIS COUNTRY dearly. But if you believe, as I do, that stocks are the best leading indicator for the economy, then there are some decidedly troublesome warning signs brewing right now.

There was a time in the 1990s when the thought of investing in anything other than Cisco Systems (CSCO), Microsoft (MSFT) or the major U.S. markets would’ve seemed downright daffy. Foreign stocks? Commodities? Small caps? Who needed ‘em when Sun Microsystems (SUNW) and the S&P 500 went up a tidy 20% every couple of months.

But in the markets, change is the only constant. And while American shares have long been the locomotive that pulled the world’s train along, lately they’ve been more like the caboose. Right now, the market seems to be showing a preference for most anything besides U.S. stocks. Because equity markets are the best gauge of economic growth that we’ve got, this underperformance bodes ill for both America and its currency. (more…)

Tradecraft – The Sound of One Hand Trading

On July 21, 2010, In Good Articles, by ElfLord

BUYING A STOCK IS EASY. But when it comes to managing a portfolio, it’s usually the follow-up that matters most. Instead of always focusing on taking new positions, successful traders know the real trick is dealing with the ones you already have.

Getting out of a trade, especially at a loss, can be an enormously difficult trigger to pull. Equally thorny is simply standing pat and having the patience to let the market move unfold. Yet knowing when to hold ‘em and when to fold ‘em forms the basic framework on which successful portfolio management is built.

Forget Sharpe ratios and exotic options techniques. In trading, there’s nothing new under the sun. The golden rule — cut your losers and let your winners run — hasn’t changed since the beginning of time. And when following up on a trade, that’s precisely the philosophy that you should engage. Winners are preserved. Losers get kicked to the curb. End of story. (more…)

Tradecraft – One Word: Infrastructure

On July 19, 2010, In Good Articles, by ElfLord

WHILE THERE’S NO EQUAL to the human cost suffered by the victims of Hurricane Katrina, one can’t help but be awed — and sickened — by how much physical damage was wrought.

After all the debris, sewage, waste and wreckage is cleaned up, a good chunk of the $100 billion rebuilding effort will go toward the region’s infrastructure, much of which was demolished in the hurricane and subsequent flooding.

Infrastructure businesses are the skeletons of economic activity, the essential things we use everyday but don’t think much about. Generally, they’re assets where a natural or near-natural monopoly exists, such as a toll road or power grid. Parking lots, water utilities, roads and airports, even cellphone towers are all considered infrastructure assets.

The appeal of infrastructure investment is obvious. High barriers to entry make direct competition difficult to impossible. Imagine the cost of building a new airport to compete with an existing one. Plus, the assets are all physical and localized — you can’t outsource a toll road to India, or use the Internet to offer cut-rate pricing on a gas pipeline. This makes infrastructure assets much less susceptible to the natural competition faced in almost every other industry. (more…)

Tradecraft – Dude, Chill Out

On July 16, 2010, In Good Articles, by ElfLord

GENERALLY SPEAKING, IN LIFE, you get out what you put in. The longer you exercise, the more weight you’ll lose. The more you study, the better you’ll do on a college exam.

Trading, however, is one of the few activities in which more is not always better. If you want to make money, trading more positions more frequently and with more leverage is hardly a stellar strategy. The opposite — fewer positions, fewer trades, less leverage — often yields considerably better results.

Today’s international markets trade around the clock, offering more opportunity than one individual would ever be able to capitalize on. But what many investors, especially the most competitive, often forget is that to be successful, one need not master the market, but only catch some of its waves along the way. (more…)

ZF Capital

Tradecraft – A Roll of the Dice

Tradecraft – Trick or Treat?

Tradecraft – Choose Your Battles Wisely

Tradecraft – Profits Trump Patriotism

Tradecraft – The Sound of One Hand Trading

Tradecraft – One Word: Infrastructure

Tradecraft – Dude, Chill Out

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