Thursday, October 09, 2008

Finding Opportunity in Crisis

Among individual investors I talk with, sentiment is as uncertain and anxious as any time I can recall. One comment I hear over and over is, "I don't look at my account statement any more." The question I encounter repeatedly is, "When do you think this will come back?" What I'm not hearing is re-evalution of portfolios, plans for hedging, or thoughts about what this decline *means*. The tendency is to see this market decline as irrational panic. The scarier possibility is that the stock markets are doing what they usually do: anticipating future economic conditions. And those conditions look downright grim, given the messages of both stock and corporate bond markets.

Interestingly, however, many day traders are finding unusual opportunity amidst the market volatility. Their short holding periods and lack of exposure to overnight headline risk help them control the downside, particularly if they're also attentive to position sizing. A good example of how different the mood is at prop firms vs. elsewhere can be seen in the recent blog entries from SMB Trading. One particularly valuable lesson that they emphasize is "making adjustments as market conditions change". Patterns that had worked well in lower volatility markets are not the ones that are working best in the current environment. The ability to adapt to changing conditions and maintain the search for opportunity amidst market panic is a great example of how times of crisis can also be times of opportunity.

If you do trade this market, however, there will be times when you're wrong, and markets can move mercilessly against you. Check out the post on "Getting Caught"; it's a nice illustration of how you can plan to be wrong, even as you pursue opportunity. "Good traders get caught," the authors emphasize. "They find the lesson in their rip. They learn and get better. They turn a rip into a positive learning experience." Even at the individual trade level, crisis can bring opportunity.