Ok. It’s January 3, 2012, the champagne’s has long since lost its fizz, my head has started to re-assume non-pumpkinlike dimensions, and its time to evaluate how we did last year.
I just read in today’s Wall Street Journal that the average hedge fund was down 3.7% for the year, according to data published by Hedge Fund Research. That about matches the NASDAQ, which ended the year down 1.8% but underperformed the DOW, which ended up 5.53%.
How did our performance match that? Well, we blew them out of the water. Our three stock sample portfolio grew from 100K to 148K in 9 months, about a 60% return. Our 6 stock portfolio, which ran for less time, started in June of 2011. Due largely to the extreme choppiness of that summer period – which wreaks havoc with most trading strategies, including ours – this portfolio showed a bit weaker results, but certainly nothing to complain about. Our 100K June portfolio has grown to 118K or 32% on an annualized basis. Not too shabby.
Lessons learned in this year’s trading? First and foremost, be patient!
When the summer whipsaws were punishing our trades, it was important to hold on for dear life. By doing so, we benefited handsomely when the market finally made up its mind.
The secrets of our strategy? Use a momentum indicator – we like the Commodity Channel Index, and stick to it fairly religiously. We may get a series of losses – 2 or 3 in a series are not unheard of – but then the subsequent gain usually more than makes up for that.
Lesson number 2? We also trade for customers holding monies in an IRA. As you may know, IRA’s are not permitted to short stocks. (In its infinite wisdom, the SEC judges shorting a stock to be much riskier than buying one – as in theory – a stock can rise to an infinite high so a short sale can produce infinite losses. )
So we use put options to attempt to gain value as the equities are falling. Well, our options portfolios performed poorly compared to long / short no option strategies. In analyzing our results, we ascribe this to 2 mistakes we made.
First, we traded options with expiry date only 1 month out. This time frame proved to be too short, and we got killed by time decay. Time erodes the value of all options (Theta), and the shorter the option the greater the decay. This will erode the value of your position, even when you are right in the direction of trading.
Second, in the stocks we chose to follow, the bid-ask spreads on my options were too large. If you are trading a stock and your momentum indicator signals you to reverse your trade – which will happen with frequency – you usually suffer little damage – perhaps a 30 to 200 basis point drop plus whatever friction results from transaction fees. On an option however, if you buy the put option then immediately sell it – with no movement of the underlying equity – you may see yourself sitting on a 10% loss due to the spread between bid and ask.
So what’s an IRA customer to do? There are 3 alternatives, and we will test them all:
- Only go long, use your signals to get out at the appropriate times.
- Use reverse ETF’S on sector ETF’s or broad market indices (e.g. QID) in lieu of the put on a given stock.
- Extend the expiry period of your put options – and only trade options that feature a spread of less than 2 percent. When option volatility is high, use straddles, strangles and calendar spreads to be a net seller and not a net buyer of the high priced options.
We believe the final choice will be the most successful, as our limited backtesting reveals, but the real proof of the putting will be in the eating.
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August 20th, 2011
Once again, the technicals triumphed over the fundamentals. Look at my featured trade posting of last week. I love this company, and its position in the interplay of world commerce. Sales and earnings are soaring, so you could easily be bullish about this company’s long term prospects. But the psychology of the market was screaming “SELL”. Let’s face it, the public is downright scared. This was reflected in APKT’s chart, as I showed you.
Here’s how it played out:

Look at my featured trade. I had said I would sell it short if the stock traded below $54.20 with a limit price of $54. I got in at $54.15, on the short side, and had to hang on for a fast toboggan ride down to $40. When it bounced up from here, I exited the trade, because that was where I had perceived a weak floor to be (see my posting).
So far so good: a quick 17 percent in less than two weeks. And we are not done.
I was looking for a small bounce at $40, up to a previous low. That low was at 45. So when the stock turned south there again, I was back on board, with a short at $42.50. the stock is now trading at $39.92 at close on Friday. I have a stop position at 41.90, which will give me a small loss if it triggers. I expect the stock to sink lower to at least $35, before it encounters another bounce.
Long term, technicals look pretty dismal for this stock. I expect a short term move – within the next two weeks – down to the floor around $30. A bounce there probably will be nothing more than a “dead cat bounce” , as this animal is expending one of its nine lives.
The monthly long term wave pattern suggests an ultimate drop to the $23 level. My rsi(14) trace line suggests a price even lower, to around $10. YIKES! (Caution: comparing rsi strength ratios to price levels is inaccurate when you surpass the period length of the average, in this case 14 months. The only thing the chart is telling us is that the RSI “wants” the price to move lower than its level 14 periods ago, when it was trading at 28.)
Does this have to happen? Of course not. Be cautious and use stop limits to limit your losses if the market surprises you.
As always, remember never to trade more money than you can afford to lose. By nature, trading in stocks is risky. Make sure you read our disclaimer. Good luck!
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August 11th, 2011
What a run APKT has had in the last year, up more than 500%. While it still has wonderful fundamentals, beware of the technicals. Check out today’s featured trade.
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August 10th, 2011
What a wacky two weeks its been! Sorry I’ve neglected you readers this long. Sometimes though, a man’s just gotta make a living! These markets have been roiling so heavily, that I barely had time for lunch.
Hopefully most of you have taken a glance at my portfolios. If anybody has ever had any doubts about whether trading beats a buy-and-hold strategy, take a glance at this year’s results to date: My 3-stock portfolio is up by 41% since last March, which translates into a 98% annualized return. Just in case you think its pure luck, look at the 6-stock portfolio of growth stocks (and the QQQ index): in two months, it’s grown 21%. If I can keep that pace for a year, that would yield 118%.
By the way, I finally got around to adding the growth portfolio to the web site. Just click on the “Portfolio Tab” , then towards the bottom of the page you’ll see the link for growth stock portfolio (6-10 stocks).
Similarly, to view the trading history for it, select the “Trade History” tab, then at the bottom look for the link to the Alternate Growth Portfolio History.
If you peruse the history a bit, you’ll notice something that may strike you as very odd: in absolute numbers, I lose money more often than I make it. But this is more than offset by the size of my gains when compared to that of my losses.
This particular strategy will always do that: I get 2-3 small losses, usually in the 1-3% range, followed by 1 big gain, usually in the 5%-25% range. Then the whole process starts all over again. So far over all times frames I’ve tested it, this has been the pattern through flat, bull and bear markets.
Of course I would love to eliminate the losses, but so far, whenever I try to tweak the system to reduce these, I end up lowering the overall performance. I’ll keep on tinkering with it, but in the meantime, I’ll learn to live with the frequent small losses, as long as I get the big number at the end.
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May 18th, 2011
A number of my readers have commented on the few stocks featured in our portfolio. Let me explain that.
I follow and track hundreds of stocks that meet my quality criteria, but I believe excellent results can be obtained with very few stocks. I am currently deploying three different trading strategies, one of which is posted here.
It consists of using daily time periods as the units of measurement (referred to as “candles” in technical jargon). Basically I am relying on specific technical indicators to provide me with a signal as to when to go long or when to go short.
This particular strategy consists of always being in the market in those securities, and never on the sidelines. Hence, there is always money to be made – or lost, as the case may be.
It’s easier not to miss signals if you follow fewer stocks.
I have another portfolio which deploys the same strategy, but does so on up to 20 stocks at a time. In principal, this should smooth out the results, and give me more consistent results. I’ll be posting that strategy online a little down the road.
Keeping this blog up to date takes time, and meanwhile, I’ve got to run my business.
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