Monday Series: Part 2 - The Game

"Trading is a bit like flying an airplane. Most of the time it's not very interesting, but every once in a while it's horrifying." That's a quote from Curtis Faith, who was 19 when he was selected to be one of the legendary Turtles in 1983. The most successful of the Turtles, he racked up profits of over $ 30 million in the next four years and then basically retired from trading. His new book....THE WAY OF THE TURTLE....is a great read and an extensive interview with him can also be found in the June 2007 Active Trader Magazine. One of the points he makes is that the Turtle system (which is not very complicated and has been discussed, reviewed and modified by many) would not fare very well today because of changed market dynamics. This is an issue worth exploring because, personally speaking, I like to lmit those "horrifying" times to the absolute minimum........

Traders operate in a dynamic, probabilistic and opportunistic environment characterised by uncertainty and risk. Market movements are driven by government financial policies, unpredictable news, intentional mis-information, chat-room hype, program trading, earnings reports, business fundamentals and the rampant trader emotions of fear, greed and hope that can dramatically impact price and volume action in both stocks and options. The markets are a zero sum game and utterly impersonal. Other traders have no regrets about taking your money and eating your liver for lunch, presumably with some fava beans and a nice Chianti. The marketplace that provides these trading opportunities, however, has some dynamic characteristics that retail traders would do well to consider. Electronic program trading accounted for 10% of the daily NYSE volume in 1988. In 2005 that number rose above 50% and now rides at the 70% level. The volume of retail trading on the NYSE is less than 5%, often dropping to the 3% level of total NYSE daily volume. In addition, 15 years ago 40% of NYSE outstanding shares traded hands each year, while that percentage had more than doubled to 94% in 2004 and now stands at a frothy 98%. The churn rate continue to rise, which reflects a growing willingness of both the institutions and the retail sector to practice market timing, dumping losers and seeking new winners. The buy and hold philosophy that predominated for many years has steadily eroded as higher investment returns are sought. Facilitated by the rapid development of the electronic marketplace over the past few years, market liquidity has vastly increased, trading spreads and transaction costs have dramatically decreased, and easy access to instant market news, sophisticated technical analysis algorithms and inexpensive programmable system testing and backtesting software have all served to enhance market dynamics. It should also come as no surprise to learn that some of the most successful traders are also skilled poker players (such as Bob Bright) who are consistent winners. Trader Monthly magazine is read by many institutional and commerical traders and one of the regular columns is "The Card Shark", wrtten by a 1o time world series of poker champion, and which is devoted to tactical poker. More than a few professional trading firms require traders to be rigorously educated in not only the legal and mechanical aspects of trading, but also in the application of mathematical modeling and game theory. They do so because market activity ultimately revolves around the psychological components of fear, greed, ignorance and hope and game theory can provide an extremely valuable tool for understanding, evaluating and defining trading probabilities in that emotionally dynamic market environment. A good working knowledge of game theory is a basic component of consistently successful traders because it can improve the probability or odds of winning trades and therefore provide an edge. Skilled poker players develop the ability to read “tells” of other game participants. These are the facial expressions, hand movements, body language and vocal signals which other players in the game may unconsciously exhibit in response to the cards they are dealt and are holding. The ability to read “tells” can provide a significant edge, and in a similar fashion, traders must learn to recognize “tells” when trading …the idiosyncratic behavior that each stock or option exhibits when subjected to various market conditions and forces. “Tells” are typically the actions of program trading, market makers, NYSE specialists, or other large traders that are revealed in the dynamics of the bid-ask spread, price-volume vagaries and unusual activity in options volatility and pricing. Although there is no simple roadmap for detecting these “tells”, those traders that do invest the time to study and understand such behavior will be rewarded with knowledge of significant edges that can be effectively utilized to increase the probability of success for multiple trades. Among the sites that seek to quantify these tell signals http://www.markettells.com/ is worth a look. This is a fee site, but a free trial is available. I will highlight a few other such sites during the week. Next Monday: Dealing with Uncertainty

Qs hit Friday R1

Following Friday's plan, I purchased the August ATM calls at 6:58 am (PST) on a wide 2 minute hairy bottom, and trailed the Qs up to the intradday R1 pivot target at 48.85. The Qs formed a squat bar at 48.84 at 8;30, the 2 minute parabolic flashed a reversal signal and I closed the trade. I had the opportunity to re-enter long again an hour later, but felt unsure of the trade, due to the expected Friday pm fade (which never happened) and passed.

The Coming China Wars

Clueless is on a tear about China this morning, which reminds me of the scariest book I have ever read. It's not Stephen King or some other horror master, it's THE COMING CHINA WARS, by Peter Navarro, a professor of Business at UC Irvine. Navarro chronicles the fallout from China's Hell-bent / damn the torpedos attempts to enter the 21st century in a blaze of glory and it's not a pretty story. The pet food fiasco was just the tip of the iceberg......gird your loins for some real ugly stuff yet to come down the pipeline. Pick up the book.....you won't put it down.

If your hands aren't shaking too much after you read the book you can check out his blog, after which you will probably lock the door,draw the blinds, bid farewell to your loved ones and hunker down for a prolonged siege while tending your hydroponic garden in the basement.

Friday first hour

Carl Futia now sees the Qs at 50. He doesn't say when and it sure looks like a long ways off, but hey, I was hard pressed to believe 48.70. Bought some August calls on the 5 minute hairy bottom at 7:00 (PST) and am looking to flip them at R1 48.85 today. The NYAD and TICK slope are all heading up and the TRIT is at .72 in a downslope. Volume is tepid, wich means we will probably get a big range day.

VIX, TRIN, Qs and DIA update

Time to fade the Qs? The Qs hit Carl Futia's target of 48.70 yesterday, rising to an incrdible R4 level just before the close on moderate volume. The TRIT (not shown) was very strong all day, hovering at .65 and dropping to .57 at 11:30 (PST) to signal the impended explosion up, up and away and closing at .62, (final TICK adjusted to .66). With 7 higher highs at it's back, the Qs are pushing the odds.

Although we did get a DOW retracement today it was very tame and controlled, with the TRIN running steady at .82 all day and the TICK commencing an upslope at 12:30 (pst) which continued right into the close. DIA opened at PP, falling to S2 at midday and closing close to the daily high right at PP. This is not a bearish pattern.

The TRIT, TRIN and TICK are very powerful indicators and I have learned (painfully) that trading against them only incurs pain and loss of equity.

VIX, TRIN, Qs and DIA update

Here's 10 minute charts of the past 2 days. Due to record low volumes I'm not sure we can read too much into these but I'm anticipating a short term retracement per Tuesday's post. Gaming is notorious during these periods and daily ranges can be greatly exaggerated by market makers and motivated traders with an agenda so caution is advised. The Qs strength on Tuesday did surprise me including accelerating positive momentum into the close and my August puts are in the red .05.

Vix and More

This is my spin on some very interesting posts by VIX and More today. While the summer is typically retracemet time before ramping up for the fall bull run, several techical indicators suggest we may not get the long anticpated downdraft in the foreseeable future. Next stop Dow 14,000???? Maybe, but I think the markets will exhibit modest retracement and some stagnation before liftoff. For net premium sellers like myelf these are encouraging studies that suggest I can squeeze more out of slightly ATM positions rather than ITM positions, which is the hedged strategy I normally play.

Indices link

Some questions from readers about indices' symbols and descriptions, so I'm including this link to CyberTrader Indices. There are similar sites out there, but this one is pretty comprehensive.
http://www.cybertrader.com/Platform/Indices.aspx

XLE and NEM updates

XLE is into a topping pattern...again and I am looking to exit this cycle at the next run to R1 (70.58). NEM looks like it may have some room to breathe and the near 40s will generate over 2% for 18 days, which I consider attractive. I prefer to be a net seller of premium and with the accelerated premium decay expected over the next few days, I am adding a few of these to the portfolio.

Qs update

The Qs flatlined for most of the day yesterday with only 30million shares trading in the last 4 hours and over 7 million of that was in the last 15 minutes. Needless to say, the closing momemtum was very strong and we're seeing follow through this am. The TRIT, after opening at a whopping 7.85 has settled down to 1.20, in sync with the TRIN on the NYSE side. The Qs have just hit R1 (6:45 pst) and the option spreads on the August puts have just increased from 1 to 2 pennies, so this is show time for the Qs for this cycle. I'm picking up a few of the August OTM puts as a hedge against my otherwise long portfolio.

Qs at noon (east coast) on 5 minute chart. Volume is thin but the action is decidedly positive and may run higher into the close. The TRIT has been running around .7 in a narrow band all day indicating solid positive momentum. For those unfamiliar with the TRIT, it is the ratio of the number of advancing NASDAQ listed stocks to the number of declining NASDQ listed stocks divided by the ratio of the volume of the advancing NASDAQ listed stocks to the volume of the declining NASDAQ listed stocks. At a value of 1.0 the market is in balance. A value below 1 indicates that more volume is moving into advancing stocks. Typically found as symbol $TRIT. I will look to go short if the TRIT breaks to or through 1.

VIX update. The (14,2) bollinger band indicator for the VIX gives reliable turn signals as discussed in earlier posts. The problem is that for active traders, there aren't that many of them and the VIX spends a lot of time in the wilderness before a break to one side or the other. In times like these I will look at the weekly chart to seek clues as to the larger VIX momemtum. In this case, it looks solidly down. As we are on the first trading day of the month and pre July 4th I'm expecting an up day. The Stock Traders Almanac 2007 gives today a 20 year up day probability as follows: Dow - 76%, SPY - 76% and NASDAQ -66%. These are the highest readings for the next 10 days.

For the next four Mondays I'll be running my own little spin on trader psychology. I have no illusions about being even close to par with Brett Steenbarger's Traderfeed, .....I am a mere bug on the windshield of his tireless and sophisticated probings into the trader pysche,........but, after 20 years of trading, and in the spirit of blogging, I wanted to offer some of my observations about why consistently successful trading is elusive for many of those who attempt it. My goal is to examine some aspects of market dynamics often overlooked by traders that may confound their efforts and to offer a few tactical suggestions for performance improvement. The first installment is The Castanza Problem.

Monday Series: Part 1 - The Castanza Problem

The Jerry Seinfeld sitcom often featured George Castanza, a character who was a serial loser by his own admission. George was frequently unemployed for long periods of time and was forced by his poor financial situation to live with his parents whom he found every opportunity to denigrate and demean. Although George tried almost every job imaginable, he always found a way to get fired, often under embarrassing (and hilarious) circumstances. His personal relationships and his professional pursuits were a series of unending blunders. George’s inability to make either personal or professional commitments doomed him to a world of constant conflict between Relationship George and Independent George. As George was fond of saying, "A George divided against himself can not stand”.
George was a comic success because of his personality quirks, but a deeper analysis of his multiple character foibles provides an insightful look into the types of behavior and attitudes that can help traders succeed.
While George frequently acted like the poster boy for deviant behavior, he was merely displaying an over the top version of many of the negative traits that traders must avoid in order to become consistent winners. Failure to be honest with one’s self, lack of training, lack of a professional attitude, lack of self-discipline, lack of patience, lack of focus, poor capitalization, poor planning and/or the inability to formulate and follow a plan are all examples of self-destructive behavior that traders must overcome.
In a particularly watershed episode George experiences a glorious epiphany that everything he has ever done in his life has been wrong and that to rectify his failures and now become successful he must behave exactly opposite to the way he has behaved in the past. George undergoes this realization while in a tavern and immediately approaches to the back of a very attractive, apparently unattached blonde perched at the bar. Completely contrary to his usual attempts at gaming and deception he openly declares, “Hi, my name is George, I’m unemployed and I live with my parents”.
The anticipated result of this encounter is, of course, that the blonde will turn away from George in disgust and disdain. But with an inviting smile she turns to George, extends her hand and says, “Hi, I’m Victoria, it’s so nice to meet you.” It is in this moment of brilliant clarity that George ceases to be divided against himself and presumably later reaps the benefits of his new persona off camera with his new lady friend.
In like manner, a mantra for traders might be, “A trader divided against himself cannot survive”. How can a trader formulate and effectively utilize a unified mindset and attitude that will enable him to emulate George’s awakening and trade with calm, clarity and consistency? The ability to successfully answer this question is fundamental to a trader’s longevity and the shape of his equity curve.
Next Monday.....The Game

PWE is one of my favorite dividend plays, but the way they game this thing can make a strong man cry. PWE behaves like a high school drama queen, with major fluctuations either direction as the stops get wiped and the shorts get hammered. With the renewed vigor in XLE PWE has taken off again after an ex-div implosion on the 27th. That was a buy. Catch it next round on July 26-27th.

And the high yesterday was...47.85!!!!!! No, I'm not a mathematical genius. I just used the statistical probability that with solid TICK momemtum behind them and the FOMC dynamics on hand the Qs would hit R2...and they did. Exit on close with the shorts is the way to play those vignettes. Happens all the time, which is why I use the pivots as intraday targets. I think Q trading is going to get a little dicey for the next few days as the 4th approaches. We are at the cusp of the month, so I'm leanng towards a low volume move up followed by another leg down after the 4th. R2 target for the Qs today is 48.00...which seems like a long way except the Qs opened at R1 47.79, and the TICK is upslope as I write this.

Got the Bollinger Band reversal we were expecting. Next stop, 10 day SMA , then 20. End of month and July 4th historical up bias hint that VIX may fall to the 50 day SMA.
Histogram still looks solidly OB.


As with XLE, the Qs went right to support and then reversed. In yesterday's case precisely to R2. The Qs have actually been fairly resilient relative to the rest of the market and probably have a little more juice left in them. Cheap short at 47.85.

And then there's gold, which has really taken a hit lately. NEM and XLE use to track farily close on daily bars, but a significant diverence has developed recently. The logical pairs trade is to short XLE and long NEM until the two get in sync again. Both NEM and ABX showing some strength this am. I like to watch both for alignment. No interest in GLD.....no options.

Show time for XLE. Can oil really break support? The near 68s are paying $ 1.55 and the ITM 67s are paying $2.15 or +2%. Risk ratio looks attractive to me and I am stepping on a few with 24 days to expiration.

TICK action has not favored the bulls recently. Chart suggests we still have room to the down slide until we get the capitulation low. Semis are actually positive this am, led by the twins, MSFT and INTC and the Qs are following. Gold (broken through support) and oil (at support)have suffered major pullbacks the past 5 days and a relief rally seems highly probable, though it may be short term.

Huge volume on XLF last 3 days. Not quite sure this is the intermediate bottom but picked some near the pm lows and sold the 36s for 2.5%. TLT had a good day. Remains to be seen if today's pop on the NYAD to 4+ and R2 can hold though 2 articles in the new issue of TASC suggest it won't.

I should have seen this earlier. VIX on a double short term top. The VIX is one place I like the daily bollinger band (14,2). The turns are generally well predicted by the bands, although the action can stay firmly in the middle for extended periods of time. I usually put on at least a small position when the bands are touched, with better odds if the bars close through the band.