Worldview Changing Books

From time to time, I become aware of books that alter my worldview. I wish to share these books and what it is about them that makes them, at least, in my opinion, worldview modifiers.

These come, I note, in two varieties, and perhaps, three. The first is how I view my world, but does not necessarily change my life up close and personally. One example of this type is Before the Dawn: Recovering the Lost History of Our Ancestors. This book discusses the knowledge now available about man through analysis of his DNA. Intriguing, but won't make much, if any, difference in what I do today or tomorrow, save reading more on the topic.

The other type book has great impact on what I do, today and tomorrow, and perhaps for the remainder of my life. An example of this is The China Study: Startling Implications for Diet, Weight Loss and Long-term Health. Basically, it lists the ways in which the majority of Americans are adversely impacting their health and longevity, and how a diet change can reverse those effects.

A third type would be books I've found that have major impact on personal finance. An example of this category would be Bollinger on Bollinger Bands. Finance may be regarded as a necessary evil, but the keyword is "necessary." Doing it right reduces that percentage of time and cognition demanded to satisfy this necessity, not to mention can provide a great deal more of the resources making other pursuits possible that otherwise might not be.

The idea, here, is to share these findings so others can enjoy the benefits I have derived. That simple. Most of these came to my attention because someone else took a few moments to share their experience, and I repay that gift in turn. In some cases, such as The China Study, brought to my attention by Elizabeth, my favorite middle daughter, it is the gift of life itself--or at least more and better life. Before the Dawn was from a surgeon during a followup visit. I, in turn, told him of The Singularity Is Near.

I will treat each of these books individually. Their entry here is as examples to help clarify what I intend. Hopefully, you will find these entries of benefit, and will let me and others know by adding comments to an entry. Also, please, do add comments on alternative sources that you have found beneficial. Thank you in advance for your contribution and caring.

FAS Friday

FAS continued it sideways movement on greatly reduced volume. The entire market seemed quiet, perhaps in anticipation of GM going into bankruptcy. It is indeed a somber happening.

The 60-minute chart shows that it also broke through a short-term downtrend line in the last hour of the day. Had it followed the pattern of the previous days, it should have drifted down to the support line around 8.75, closing near that amount. Instead it hovered near the upper end of the trading range the entire day. Often before breaking out, price will retrace only a small portion of a range before turning to assault whatever constraint it is facing. It did this today.

The 3-minute chart shows FAS remaining within the day's narrow support and resistance levels until a few minutes to three o'clock. It then turned up, taking a run at its resistance level. After hesitating at that level for a few minutes, it blew through on increased activity, closing at ten and near the high of the day.

The ten level is significant for a couple of reasons. First, just because it is ten. Stocks tend to treat round numbers as support and resistance levels, or more correctly, traders and investors do. Limit orders tend to bunch around round numbers, especially even multiples of ten. Second, the previous resistance level broken when FAS ran up to its recent high of 13.27, was 10.06. The high today was 10.09, close enough. It arrived at that level right at the closing bell, so had little time to challenge it.

The runup late and close at the high indicates traders want to have a position on Monday morning, expecting a gap opening. Traders tend not to want to hold positions overnight and especially over weekends because that leaves them vulnerable to surprises during periods they cannot trade. This last-minute action portends good things coming.

The price action today was not a breakout from the Bollinger squeeze. That requires a close outside the upper Bollinger band, which is 10.42 (13-day) and 10.73 (2-day), assuming a breakout upwards. It may happen Monday. The price pattern over the last week has put in three bottoms around 8.60, and today closed above the highest point in that pattern. A price target should be above 11. At 10.71, the pattern of a wider double or triple bottom confirms, extending the target to approximately 12.

Best of all, price closed today outside the pennant. That provides a target of (13.27-5.06)+8.28=16.47, based on the premise that "the flag flies at half mast." A more conservative target calculates at 13.19. The Point & Figure Price Target remains at 27.5.

Monday should be an interesting day.

FAS Squeeze

FAS continues it sideways move, each day decreasing in volatility, and each day's movement pretty well contained within the previous day. Volume was up, reaching average.

FAZ shows sideways movement, though volume is and has been above average.




As discussed last night, the length of the Bollinger bands is reduced from the normal 20-days to a quicker 13-days. The shorter length shows FAS entering a squeeze, Bollinger's term for a period of abnormally reduced volatility. The lower portion of the graph plots the Bollinger-band width, showing it diminished to a new low level. It is, in fact, as low as it has ever been during the entire history of FAS.

This graph shows both the 20-day (heavy blue) and 13-day (heavy light green) Bollinger bands to allow a comparison. The 20-day Bollingers show a steady narrowing, while the 13-day Bollinger shows an accelerated narrowing today. Notice, too, the 50-day moving average (heavy dark green) is progressing each day with a virtually identical slope and position as the lower trendline (black line) coming from the March 6th low. Even with continued sideways movement, price, 50-day moving average, and trendline should all meet no later than June 3.

The importance of the 50-day moving average: Many large investors, e.g., mutual funds, take on positions when price touches the 50-day moving average. A large accumulator of shares often starts another move upward.

The importance of the trendline: Traders take a position when price touches a trendline.

The importance of the Bollinger squeeze: It is a measure of the calm before the storm. Minimized volatility indicates a lack of buyers and sellers, so should one or the other come in, the price should dramatically start a new movement. It is not uncommon for the move out of a squeeze to be in the wrong direction, which quickly reverses and roars off in the other direction. John Bollinger calls this a head fake.

The combination of 50-day moving average test, the Bollinger squeeze, and the uptrend line, promises all the more potential for a dramatic move.

The correct play is to establish a position on breakout. If it reverses, cover quickly and reverse one's position. In this case, reversing one's position would mean moving from FAS to FAZ, or FAZ to FAS, as appropriate. FAS is the probable upward mover.

For the moment, we wait... A smug smile is appropriate.

Learning to Trade 107

There are two intuitive tendencies of investors and beginning traders that need exposure in order to avoid. Experienced traders know them, and use them for profit.

First, after buying a stock and it declines, the tendency is to hold it until it at least returns to breakeven. This tendency is so strong that investors hold stocks for years, waiting breakeven, and sure enough, when a stock’s price returns to former highs, it pauses as those persons finally cash out.

This tendency is so strong, traders jokingly define “Investor” as someone holding a stock at a loss, and a “long-term investor” is someone holding a stock at a substantial loss. After the last year, we have a lot of long-term investors.

Double tops are made from this tendency. The handle of the cup-with-handle formation also comes from this. A double top is a pattern where sellers overwhelm buyers and sends the stock downward in reversal. The handle of the cup-with-handle is where buyers overwhelm the sellers getting out at the old high. Knowing and reading these patterns provide the trader a known position where reward greatly exceeds risk and a close exit point should the pattern perform adversely instead of as expected. Many traders use the day’s new 52-week high list, or a better, a list of all-time highs, to shop for trades. A new appearance on this list indicates a stock that has overcome this drag on performance, and has no overhead.

The hidden cost of this tendency is opportunity cost. While awaiting a breakeven exit, maybe for years, one cannot invest in other situations, which may have even doubled one’s money. The other cost is even more subtle and destructive, a loss of confidence.

The second tendency involves buying a stock that subsequently rises. The tendency here is to hold this stock even when it later declines, even back to the point where one purchased it. This tendency stems from a desire or hope that the stock will continue to rise; that one would miss out on this potential profit. The tendency assures just that, missing out on the profit. Some sell when the stock finally reaches the purchase price; others hold it for a loss, thereby going into waiting for breakeven, someday, maybe.

Ironically, the two tendencies taken together means the investor tends to sell stocks at the price they bought them for, no matter how many years that takes. Might there be something wrong with this picture?

The obvious solution to these tendencies is to be aware of them and take action to not fall into their clutches. First, purchase a stock only when it is in a pattern with a favorable statistical expectation of profit--and know that profit potential. That means having a calculated price target. Should the stock perform as expected one can either take one's profit, or using a trailing sell order, called a trailing stop, to exit the position should it subsequently retrace is price appreciation. Since stocks tend to perform as "two steps forward and one step back" (50% retracement is common), one can raise the sell order by one-half the price appreciation, adjusting it periodically or as needed.

Should the stock subsequently perform adversely, have a stop-loss order to exit the stock with a minimal loss. When these execute, one should not feel as if one had failed. Better to expect such losses, and be thankful they save one being tied into a failed position. Should the price rise as expected, one can raise this stop-loss order which becomes one's trailing stop.

These orders can be calculated and placed when one is not stressed making a decision in an emotional moment, and these orders stand sentinel when one is not watching.

FAS Day

FAS opened higher, then retreated back into the pennant when the market went negative around lunch. It closed near its low, so would expect more downward motion at opening tomorrow. This illustrates vividly the need for stop losses. One set just below the downward trendline would have taken one out of the position with a nibble loss. Volume continued light, below average.

Looking at FAZ, the mirror ETF for FAS, one observes an upward day as expected. Note the Stochastics (STO) indicator continued it already given buy signal through yesterday, and note, too, the tremendous divergence of the accumulation/distribution throughout this pattern. Volume was higher than yesterday and above average. The Bollinger bands have been shortened from their normal 20-days to 13-days, to see if it is going into a squeeze. It is.

From evidence from both, best action would be to await the breakout of the Bollinger squeeze or pennant, then trade accordingly. It would appear, FAZ will breakout going up, but let it prove it. The other alternative is that FAS will indeed finally test its 50-day moving average and even its lower Bollinger band. If so, that may be its bottom, which would provide a tremendously advantageous entry. One doesn't know which, but one does know that sooner or later, one of them will...

Learning to Trade 106

One should always use a trading plan for the simple reason—it’s more profitable. A good trading plan consists of rules that cover all contingencies, can be backtested for profitability, and avoids emotional trading, which usually results in losses. Further, various alternatives or competing versions of trading systems can be compared to determine the most profitable. An example of such comparison is addressed in Learning to Trade 104 and 105.

A trading plan or system contains rules for entry, exit, and, most important, risk management, usually called money management. In the sample system treated in previous Learning to Trade entries, a rule determines when to go bullish and when to go bearish. Once entry is made, one is always invested, and switches between a bullish and bearish position. It can be backtested and results quantified.

The basic rule is invest fully in QLD, an Exchange Traded Fund (ETF) when the market is bullish, and QID, a bear-market ETF, when the market is bearish. QLD and QID represent the 100 largest cap stocks on the NASDAQ Exchange, thus provide diversification without further consideration required by the investor.

Determining whether the market is bullish or bearish is accomplished weekly using the New York Stock Exchange weekly accumulated totals of 52-week Highs minus 52-week Lows. These are available graphically at $NYHL. Scroll down to the weekly graph since both daily and weekly are shown.

An alternative tested in Learning to Trade 105 uses the highs minus lows from the NASDAQ Exchange found at $NAHL. In looking at $NAHL, scroll down to the weekly. The rule is simple, when the graph is going up, be in QLD; when it is going down, be in QID. When the graph switches directions, switch between QLD and QID. Since the graph is weekly, one need not look except on weekends. During the week, the latest week is only week-to-date instead of the entire week, and could result in numerous false (read: expensive) signals.

This method of market determination can be used in other ways such as withdrawing one’s 401K from market exposure during bear markets, then returning when the markets go bullish. Had one done that, one would have not been one of those many whose retirement funds decreased by half during 2008. Better to enjoy a modest 1- or 2-percent return from bonds than endure a 50% decline in stocks or mutual funds.

Until bear-market ETFs, IRAs could not “go short” or invest in ways to profit from bear markets. Now they can.

In this system, QLD and QID were chosen because they’ve existed long enough to enable two years of backtesting to determine profitability. New ETFs, such as TNA-TZA, BGU-BGZ, should outperform these two, but have not existed long enough to backtest through all market phases.

This, then, is a most simple system containing entry and exit rules, and uses the diversification of the ETFs for money management. Using either $NYHL or $NAHL, performance over a two year period averages over 100% per year. Not bad for a system that requires less than 15-minutes each Sunday night.

Future entries will cover more complex systems that should outperform these simple systems, but require more knowledge and involvement.
----------------------------------------
To “look at the $NAHL graph close up,” take the following steps:
1. Go to the $NAHL site.
2. Scroll down to the weekly graph and click on it. This will take one to a weekly graph with controls displayed.
3. One can click on the Color Prices box to display downward price movement in red, while upward movement remains in black. The graph will not change until the Update button is clicked.
4. Change the Range box from “Fill the Chart” to “3 Months” as an example.
5. Press the Update button; the last three months of the chart should display.
The same procedure is used for $NYHL.

FAS Thoughts

FAS lifted very nicely today, but note the volume is less than average. It also failed to close outside the pennant formation in progress. Whether this is the beginning of a breakout and new movement up, remains unknown until at least tomorrow.

Today was the first day one could anticipate the end of the C movement of the ABC correction in progress. In the past, FAS has completed short-term downward moves at its opening, then went up dramatically the rest of that day. Should it do so this time, the formation could be a double bottom, but that formation isn't "official" or confirmed until it closes above the center peak (10.71), this time marked with the B, and is one point higher than today's close of 9.71. That would provide a known position that one could trade, but one hopes for one lower.

Should the pennant be broken tomorrow by price moving decisively outside the upper pennant line, it offers an immediate buy position, but there is a 47% chance price will retest the downward trendline that forms the upper boundary of the pennant. Depending on risk tolerance, one can take a partial position on breakout and increase it on retest, or take a total position on breakout, use a tight stop to get out with minimum loss, then take another total position at the retest point. Often a trend breakout will "peak" above the trendline, then run down another time before actually breaking out. The second graph shows such a peak.

Should the pennant breakout happen, price target would be basically (13.27 - 5.60) + 8.28, or 15.95, similar to the target thought valid for peak 4 of the FAS Cycle Counts entry. There is a 60% chance of making this target, and a 2% chance of failure to make breakeven. Stop losses should be initially set below the downward moving trendline that forms the upper boundary of the pennant. Reward:risk should be easily above the minimum 3:1. To be a valid breakout, the price should close above the upper pennant line, so buying on open is not waiting for pattern confirmation. Truly caveat emptor.

Also, a breakout from a pennant usually happens approximately 2/3rds of the way down the pennant, and if it doesn't, the price usually continues to meander sideways after moving past the end of the pennant. Should that happen here, and it appears it might, the Bollinger bands will probably go into a squeeze, which would be the next potential tradeable pattern. That would be a good thing, too. So, if the price meanders out of the pennant sideways, do not treat it as a pennant breakout.

Finally, the FAS pennant appears flat on the bottom. When a pennant is flat on one side, the breakout tends to happen in the direction of the flat, in this case down. Should this evolve, one could go with FAZ instead of FAS. Amusingly, its flat side also indictes down, but its close was outside the upper pennant line.

This is all to say, this formation can end by going up, down, or sideways. How wonderfully enlightening. Here again, successful trading is a matter of going with the odds at positions known favorable, then limiting the inevitable losses to small amounts compared to the inevitable gains.

Learning to Trade 105

This continues the discussion of improving the recent return of a system that alternately invests in QLD and QID, depending on the direction of the new 52-week highs minus the new 52-week lows. Performance using the New York Stock Exchange (NYSE) vs NASDAQ was in question, since NYSE was down over 13% since January, 2009.

Using the NASDAQ new highs - new lows definitely improves performance this year. Instead of being down almost 14%, performance shows a 10% gain. This makes sense since the NASDAQ is leading out of the bottom March 6th, the NASDAQ contains tech stocks, a leading sector, and the NASDAQ contains smaller cap stocks which generally lead a new bull markets. It also makes sense from a seeming logical standpoint that QLD and QID are Exchange Traded Funds (ETFs) representing the 100 largest cap stocks of NASDAQ.

If one backtests the system back to July 2006, using the NASDAQ highs-lows, returns indicate 305%. July 2006 approximates the creation and start of trading for the two ETFs, which points toward a weakness of this system.

Normally when testing a mechanical trading system, one divides the data into at least two segments, usually representing all market phases, bull, bear and transitions. One tweaks the system on one data set to gain maximum performance, then tests it against the other data set to determine if the performance continues. If it does, one most probably has a good system; if not, one has merely over-conditioned the system to the initial data set, and it probably not perform well in reality. Better to find this out without paying real money for the results. The problem with QLD-QID system is that ETFs have not existed over sufficient time to have two all-market-phases data sets. It is just completing the first with this transition from a bear-to-bull market.

Although the recent recent of the NASDAQ-based system improves over the NYSE, performance since onset in July 2006 does not. The NASDAQ system performs at 305% compared to the NYSE version's 368%, showing why the NYSE system was used.

We still desire an altered system to improve system performance in recent months while maintaining or improving long-term. However, do keep in mind that either system version is performing at enviable rate, especially considering 2008 had many peoples IRAs and 401Ks down 50%.

FAS Correction

FAS has gone into correction, breaking the channel lines on the lower side as addressed in the last paragraph of the previous FAS entry, FAS Cycle Count. The question now is where is it going and when will it arrive. Two potential objectives are apparent: 1) the 50-day moving average, and 2) the lower Bollinger band.

This expanded graphic shows the 50-day moving average is synonymous with the trendline drawn from the March 6th bottom. Assuming an ABC correction is underway as shown on the graph, the C leg could complete at the 50-day moving average and trendline as soon as Tuesday or as far into the future as Monday, June 1. This level also equates to a Fibonacci retracement of 50%, adding further to the attractiveness of this level.

The other alternative is the lower Bollinger band now approaching 7.00, which is also a support level dating back from before the March 6th bottom. It does not relate to a Fibonacci level, so may be the lesser attractive target. The correction may "pay tribute" to both levels by dropping to the lower intraday, but closing at the higher.

The main point to make is that projecting which is correct is mainly academic. Trading should be done on what happens, not what one thinks will happen, and should always be accompanied with a stop loss in case one is wrong. If the price action indicates a bottom is made at the 50-day moving average, a trade can then be initiated with a stop loss order placed under the 50-day moving average. A reward:risk ratio there should better the 3:1 minimum required.

Longer term, this ABC may be just the A leg of a longer-term ABC correction. If so, we still should get a strong B leg up that can be traded--albeit carefully. There is also the mirror ETF for FAS--FAZ. As FAS corrects, FAZ goes up, and, indeed, FAZ has broken out of its down trendline on extraordinary accumulation. Interesting!

Memorial Weekend

"Over the years, the United States has sent many of its fine young men and women into great peril to fight for freedom beyond our borders. The only amount of land we have ever asked for in return is enough to bury those that did not return." ~ Colin Powell

http://www.usba.com/memorialday/

Icey Observations

In spite of some green prognostications to the contrary, previous interglacial periods were warmer than the current one, or so says the ice core evidence. One of the flaws pointed out about Al Gore's Inconvenient Truth was the inconvenient fact that carbon dioxide increases 800-1300 years after warmth, not the best evidence for carbon dioxide being the cause of warming. The delayed CO2 probably comes from widespread melting of the permafrost and subsequent rotting of materials long frozen.

The GRIP and GISP ice cores from Greenland go back 110,000 years, to the last interglacial, then turn into muddled ice the last few meters before bedrock. This indicates previous interglacial warming virtually destroyed the Greenland ice sheet. This warming hasn't, at least, not yet. I doubt the previous interglacial destroyed the ice sheet because Homo Erectus and Neanderthals were driving too many SUVs. I might have difficulty believing the Greenland ice sheet may again be destroyed this interglacial because we are driving too many SUVs.

In previous years, the IPCC report on global warming contained a graphic showing increased global warming. Because of the shape, the graph became known as the hockey stick. It was omitted from the 2001 and subsequent IPCC reports when it was shown to be dubious modeling. A peer-reviewed report in 2005 went so far as to say, input of noise would have produced the shape. Perhaps one could use it for tracking one's bowling scores.

Of course, as some Australians have recently pointed out, greens lie. Unfortunately, governments and those who stand to profit have realized the revenue and profit potential from a carbon tax, by whatever name. They have the momentum and are progressing. It is a tax increase of an indirect kind, where the citizen pays substantially more for goods and services, while the bad polluting capitalist selling those goods and services is being punished. But, then, we already knew politicians lie--and prosper.

Personal Purpose

In an environment of parties disinterested in the well being of the average citizen, I can do little to offset those adverse interests. However, I can help individuals and families to offset the constant drains on their finances. In doing so, I contribute to the strength of my country. The true underlying strength of a capitalist country is the financial strength of the citizens, even though governments tend to overlook this and act adversely to citizen well being.

This seems one of those times. I worry that my government has become "the best government money can buy"—but counts its citizen as money extracted by force of law, thus not of influence.

What I can do is continue to improve the already designed system to invest an individual’s funds to provide an extraordinary return, teaching that system to as many as possible. This allows persons to realize the American dream of working, saving, investing, and becoming financially independent if not downright rich. I do this both for my own children and all those who would personally like to better themselves. They thereby better their families and their countries.

What I provide is a simple technique for extraordinary return on capital invested during both bull and bear markets. I offer the entire technique herein, teaching how to employ it so no other expertise it needed. In short, should you save money from even the modest earnings of an ordinary citizen, this technique allows you to realize the dreams of capital accumulation of a capitalist country. It provides you the control of your own financial future.

Good luck, do good, avoid debt, and teach your children this independence and aspiration so they can do even better than you. Alert your friends that this opportunity is available to them, too.

The technique is summarized in the entries marked TRADING. A lab course of these techniques applied is found under FAS-FAZ, TNA-TZA, and ERX-ERY. I will probably add others in the future. Should you have suggestions for improvement, please, share them. If you have questions, they are welcome.

Above all: Live long and prosper!

Learning to Trade 104

This is the updated return for the system investing alternately in QLD or QID, depending on the New York Stock Exchange (NYSE) accumulative New 52-week Highs - Lows. It gave a false signal in January, followed by a period of decay, then several switches as it tried to make a bottom. The actual market bottom happened March 9, so one can judge the quality of the switch by comparison.

Although the system has performed admirably overall, had one invested at the initial January switch, one would be down 13% at this point. That obviously is a situation that could use improvement since the market has moved an enviable percentage since the March 9 bottom.

The NYSE Highs - Lows did reflect a switch on March 23rd, then oscillated several times before running upward for three weeks, and finally gave another bear signal. It's too early to determine if this another false signal or a true switch (true meaning profitable). Keep in mind when looking at the graph, that the line switching shows on March 16, but one doesn't know that until March 23.

The first thought for improving the system was to check the NASDAQ New 52-week Highs - Lows. It seemed reasonable since QLD and QID are ETFs representing the NASDAQ 100, not stocks on the NYSE. Sure enough, the NASDAQ indicator switched decisively March 23 and remains bullish.
------------------------------
This entry is incomplete because the laptop's battery became exhausted. It continues in Learning to Trade 105.

FAS Cycle Counts

An interesting analysis shows FAS has a regularly repeating performance. Note that Peak 2 happens 16 trading days after peak 1. Peak 3 occurs 18 days after peak 2. If repeated, peak 4 schedules 16-18 days after peak 3, or on May 29 through June 2. It should also achieve a price near 16, or approximately 60% above current prices.

Dip 1 occurred 7 days after Peak 1; Dip 2, 6 days after Peak 2; Dip 3, 5 days after Peak 3. Note also that Dips 2 and 3 are on the same channel line, a line drawn parallel to the line across the Peaks. From this regularity, one may assume that FAS remains on schedule to arrive at Peak 4 on time or maybe even a day early, since Dip 3 was faster than Dips 1 and 2.

From this example, one knows where FAS is and should be with a probability, and also knows where to place stop losses should it not perform as expected. FAS should also experience another slighter dip before ascending to Peak 4, which provides another entry point with a nearby stop loss point. These known points provide one a reward:risk ratio exceeding 3:1, the minimum acceptable.

There is an alternate possibility that Dip 3 is the A leg of an ABC correction, where the C leg will carry FAS below the lower channel line probably to the green 50-day moving average. If so, one's stop loss should take one out at a minimum loss, with an even more advantageous entry point at the 50-day line.

FAS Breakdown

May 12, 2009: Price dropped below the top of the pennant used as the breakout pattern. This illustrates the need of stop-loss protection. In this case, the pattern top was at 10.05, so a stop-loss sell order just below 10 would be right. The idea is to get nibbled but not taken to the cleaners.

Price decayed to the 20-day moving average centering the Bollinger bands, then recovered to the trendline pattern bottom, as if to retest it. The retest complete, stochastics indicate today's drop is not the bottom, and tomorrow will carry lower.

May 13, 2009: Price gapped down at open and continued down, closing at the 62% Fibonnaci level of the 5.60-13.27 movement. Stochastics again indicates this is not the finish of the drop. It seems enroute to the 50-day moving average currently at 7.07.

Market averages show similar patterns as they react away from their 200-day moving averages. They will probably drop down to retest their 50-day moving averages. The NASDAQ Composite's Point & Figure chart indicates a target coinciding with the 50-day moving average.

A correction of the tremendous runup since early March is due. A 38% Fibonacci retracement of the S&P500 calculates as 830.
-------------------------------------------
On reflection, one might have done better than a small loss. For example, a pennant breakout averages a run up of 25%, which calculates as (10.05 * 1.25)= 12.56. The ultimate high was 13.27. Also, I've drawn a line across the last three peaks, indicting one could expect a reversal at that level. That also was the third wave up, so an Elliott-wave analysis could expect a correction starting. That speculation taken forward means we are into the A leg of an ABC correction.

With an average volume approaching 300M shares per day, FAS is obviously traders against traders. Overlooking things such as those of the previous paragraph are obviously paid lessons one should at least get one's tuition's worth from. If one doesn't, expect the lesson to be repeated at full tuition.

Learning to Trade 103

Trading can be simplified to a number of decisions that do not need to be made simultaneously. For example, one can distill the buying decision into what to buy and, later, when to buy it. Once bought, the decision becomes when to sell it. By constructing rules, one avoids emotionally poor decisions of trading without a system. Rules give one a trading system that can be backtested to determine profitability and potential risk.

What to buy can be simplified by only trading Exchange Traded Funds (ETFs). These come in pairs, so when the market are going up, one can buy a bull-market fund, and conversely, when the markets are going down, purchase the bear-market funds. By purchasing a fund representing a wide-range of stocks, one has handled concerns of diversification without having to think about it.

For example, use SSO and SDS, which represent the 500-largest capitalized stocks of the stock market. During market appreciation, own SSO; during market declines, own SDS. The question then becomes: How does one know when to sell one and buy the other? A simple manner would be to use some indicator that would tell you mechanically when to switch. Using two moving averages was discussed in a previous entry, Personal Finance 101. This system provided a 38% average annual return including through the otherwise bad year, 2008. Not bad.

An even better way was covered in Trade Switch, posted March 23, 2009. This system uses QLD and QID, ETFs using the 100-largest capitalized stocks of the NASDAQ. At the time of the switch, this system was performing per the attached graphic, or 131% per year--including the infamous year, 2008. That system switches when the New York Stock Exchange's accumulative 52-week Highs minus 52-week Lows, as measured weekly, reverses from positive to negative or vice versa. This is graphed here. Be sure to use the weekly graph, and use it after Friday's trading day has been posted. Otherwise, the latest week will only include week-to-date, not the entire week.

These two systems use ETFs that have existed since July 2006, allowing backtesting in both bull and bear markets. The new 3X ETFs did not exist then, but should perform even better. However, one is advised "test before using." Testing is often cheaper than reality.

Learning to Trade 102

"Don't gamble; take all your savings and buy some good stock and hold it till it goes up, then sell it. If it don't go up, don't buy it."
~ Will Rogers.

Perhaps the major concept essential to successful trading is that it is a statistical operation. One is never certain a trade will work out. There are numerous independent interferences that can go wrong--and often do. What one does, or had best do, is enter those trades that offer the best odds of advantageous outcome, and abandon them quickly when they go adverse.

Stacking the odds favorably can be as simple as trading bullishly only on bull markets, or trading bearishly in bear markets. Seems a simple concept, but it is surprising how many otherwise intelligent traders continue trading for price appreciation in bear markets--and get their heads handed to them.

Before the advent of Exchange Traded Funds (ETFs), one had to have a margin account and a short-selling mindset to favorably handle bear markets. Now bear-market ETFs allow any account that can purchase individual stocks to purchase bear-market ETFs. A bear-market ETF rises as the market segment it mirrors sinks.

So, statistically one can stack one's odds favorably by simply buying an appreciating stock, in a leading group, in an advancing market. In a bear market, like 2008, one buys a bear-market ETF, of the most disfavorable group.

Another example of stacking odds favorably is covered in special situations where one can observe human nature operating to extreme. In the markets, these bubbles almost continually happen, and once one is aware, one can easily spot them. This was true of the dot-com market of the 1990s, the housing market of the last decade, or the oil runup of previous years. An example of investing in the oil bubble burst is covered in a previous entry, "Bubble Bursting." It uses an ETF, or actually, an Exchange Traded Note (ETN), to profit from the deflation of oil from $147 to $35 per barrel, providing an opportunity to generate a 1000% return in 9 months.

Such bubbles are always forming and will inevitably burst. The only requirement is one have sufficient independence of mind as to be outside the herd mentality.

The patterns covered by the Bulkowski books recommended in the previous trading entry are simply statistically favorable situations one can take advantage of. The most favorable pattern, the high, tight flag, happens surprisingly often, yet few are really aware it exists, much less how favorable it is. It rises an average of 69%, hits its target 90% of the time, and has a breakeven failure rate of virtually 0%. This pattern requires a stock that appreciates 100% in two months (Bulkowski reduces this to 90% without diminishing performance), then enters a flag or pennant. One buys when it breaks out of the flag or pennant, sets a stop loss, and moves that stop loss up as the price appreciates. Simple.

If one were to take advantage of two of these per year, making say an average of 50% each time, one would have a marvelous year. There are more than two of these per year, and one need only hunt those stocks that have either doubled or appreciated 90% in the last two months. One could make a living with just this one pattern.

Why don't more people do this? First, few people know of it and fewer still have the personal self-discipline to use the knowledge advantageously. The greatest impediment one finds to successful trading one sees in the mirror each morning. The markets are a microcosm of life, in that respect. The greatest challenge we all have is self-mastery, and surprising few people in life succeed, inside or outside the markets.

Learning to Trade 101

The son of a friend recently expressed interest in learning to trade. He had noticed the recent price appreciation of Krispy Kreme (KKD), and discerned that would be a wonderful way to make at least some extra money. His mother referred him to me, and I agreed to post a few entries on learning to trade.

I recommend several books I think most significant. To encourage one's learning I would first refer to Thomas Bulkowski's Getting Started in Chart Patterns. It is inexpensive ($13.57 at Amazon) and covers the ten most profitable patterns of stocks. The number-one pattern, the high, tight flag, I have mentioned in the FAS entries on this blog. The FAS entries serve as a real-life example of the various techniques useful generating extra-ordinary profits, including one example of the high, tight flag.

Of the significant books I recommend, two more of them are Thomas Bulkowski's. They are his Encyclopedia of Chart Patterns, and his Encyclopedia of Candlestick Charts. These are more pricey but well worth their price once one is certain of trading as a personally profitable pursuit.

The value of Bulkowski's books come from his statistical research in how these patterns perform in bull and bear markets. The latter two are dry reading, but essential reference for one who is profit oriented. The high, tight flag, for example, was first published by William O'Neil in How to Make Money in Stocks, but Bulkowski published the statistics on its performance. It averages a 69% appreciation, hits its target 90% of the time, and has a virtually 0% failure-to-reach-breakeven rate. That provides insight into my valuing Bulkowski's books.

The final "essential" book I would recommend is John Bollinger's Bollinger on Bollinger Bands. Bollinger was an analyst for Financial News Network when FNN was purchased by CNBC, but he did not care to move from Los Angeles to New Jersey when FNN and CNBC were merged--or perhaps more accurately, CNBC purchased and shutdown their competition. Instead, Bollinger stayed in LA and opened is own firm as well as writing his book.

In future entries on this topic, we'll cover support & resistance, trend lines, moving averages, volume studies, money management, and trading systems. These will have the label below of "Trading" so one can pull them up from among the many other topics of the blog. The trading methods presented are far from being the only available, but are simple, easily applied with limited time, and definitely do not require watching the market minute-by-minute during the day.

FAS Retest

While awaiting the release of the government's stress-test results for the largest banks, FAS retreated to retest the top of the pattern it broke out from yesterday. This occurs in 47% of patterns. The important thing is that it held. The pattern top was at 10.05, and the FAS low of today was 10.01. Tremendous buying came in at the pattern top level, both times it tested that level, giving an intraday double bottom.

It closed regular trading at 10.43. With the release of rather benevolent stress-test results at 5 p.m., after-hours trading took the price above 11.00 in minutes. As I write this, it is at 11.32 and still actively trading.

Today's retest offered an attractive entry opportunity, with the stop loss under the low of the day (10.01). Tomorrow should see a resumption of price climbing towards targets discussed yesterday, except the Point & Figure target has been raised to 27!

FAS Breakout

FAS breaks out from a pennant on the upper flat side. Breakouts are usually to the flat side. Market has been leading the financials, giving a hint of today's breakout, and markets indicate it will continue.

Today's high is just below the resistance level of 11.53, and the next resistance level at 12.53 may be reached tomorrow. After that, the next level is at 18.31. Point & Figure charting gives a target of 21, so this appears an excellent trade with a stop loss below the flat, breakout line at 10.05. Reward: risk ratio well over 3:1; calculated as (18.31-11.43):(11.43-10.05) or 4.98:1.