Sunday, August 25, 2019

How Can I Take Advantage Of Breaking News Stories?

The market threw a nice curve ball on Friday.  While all the world was hanging on Fed Chairman Powell's every word at the Jackson Hole meeting, it was an announcement of tariffs by China along with retaliation by the U.S. President that hit the market hard.  

What I found interesting was that some traders were able to jump aboard this development and make money on the short side, while others found themselves relatively confused and even paralyzed.

So when is news a true game changer?  How can we recognize when the psychology of the market has genuinely shifted?  The charts above, from the excellent Stock Charts site, depict two things that help us identify when news items are truly newsworthy.

1)  Volume and Volatility - Notice around the 11 AM time how we got a large bar to the downside on meaningfully increased volume.  This is important.  The extra volume coming in represents new participants in the marketplace.  Typically these are institutional participants who are moving considerable size in the market.  The fact that they enter all at one time, driving the market meaningfully lower tells you right away that participation and sentiment has changed.

2)  Breadth - As long-time readers know, my favorite moment-to-moment indication of breadth of market movement is the NYSE TICK ($TICK).  This represents the number of stocks on the NYSE exchange trading on upticks minus those trading on downticks.  Notice how this had opened in negative territory, as many stocks opened lower than their prior day's close.  We then saw buying come into the market during early trading, sending the TICK in positive territory.  At that 11:00 AM hour, notice how TICK slammed negative, hitting levels of -1200.  This is an extremely negative number and can only be achieved when institutions are dumping baskets of stocks (so that everything downticks at once).  

When we put those two factors together, we can see that the distributions of price change, volume, and breadth completely shifted around 11 AM.  We can then walk forward to see if those distributions continue their new pattern.  Sure enough, SPY continues to trade with elevated relative volume and $TICK continues a negative distribution, failing to reach its morning highs.  The hypothesis you want to entertain at this time is that the news was indeed a game changer and we could see a trend day, as large participants unwind large positions that can't just be dumped on the market.  Notice how selling the first bounce after the 11 AM washout was indeed a good entry, even if a trader failed to hit bids at the first indication of volume and negative breadth.

No one could be expected to predict what happened at that 11 AM hour.  Successful trading does not require such prediction.  Rather, it requires an open mind and an understanding of what is happening moment-to-moment in the marketplace.  A valuable feature on many trading platforms is a playback function that allows you to replay market action to see how the day unfolded.  Playing and replaying key market scenarios is a great way to accelerate your pattern recognition abilities, so that you will be sensitive to similar patterns in the future as they emerge.  Simply writing in a journal is not sufficient.  We need to train the brain for real-time pattern recognition if we are to act in the heat of the moment.

Further Reading:


Thursday, August 22, 2019

What Is In Your Trading Psychology Playbook?

One of the core ideas among the traders on the New York floor at SMB is that of "the playbook".  Derived from Mike Bellafiore's book of the same title, the notion of a playbook for traders is similar to that for football or basketball teams.  Before each engagement, you assess yourself, assess the competition, and identify the plays that you will run that:  a) take advantage of your strengths; and b) exploit the other team's weaknesses.  The selection of plays from a playbook then guides drilling and practicing before the competition, preparing the team for optimal performance.

For active traders, each day can be a new competition.  Recently, we've seen not only volatility and volume in the stock market, but a reasonable degree of volatility of volatility and volume.  Thus, for example, roughly a week ago, we were trading well over 100 million shares a day in SPY, with wide daily ranges.  Most recently, we've traded around 50 million shares, with relatively narrow ranges.  Each day, we play a new game and face a new team.  Without a playbook to guide us in what to look for and exploit in each environment, we cannot take advantage of our strengths and ground ourselves in the opportunity set of each set of market conditions.

For longer time frame traders who are more fundamentally grounded, each day will not bring a new strategy, but it is likely that each week and month will deliver a fresh set of risks and rewards.  The notion of a playbook to select strategies to adapt to the changed environment is equally valid.  For example, one manager I met with recently identified the environment for his market as trending, but with a declining Sharpe (increasingly choppy).  To exploit the trend without having to worry about the back and forth, he drew from his playbook and found an options structure that he could hold and that limited his risk.

The trader who trades one way in all markets is like the dancer who dances the same way regardless of the music that is playing.  It doesn't help to sanctimoniously proclaim that break dancing "fits my personality" if the band is playing a slow love ballad.

Interestingly, very few traders develop psychology playbooks.  Different market environments may pose different "triggers" for traders:  boredom, frustration, over-eagerness, overconfidence, etc.  Having a playbook of techniques for grounding ourselves in these different conditions can help keep us in the zone and help us make our best decisions.  Can we really make the most of our trading plays if our mindsets are reactive to what markets are doing?  A well-rounded trading psychology playbook would include various methods of self-talk, various exercises to increase focus, various techniques to shift mood, etc.  Over time, we can recognize the techniques we're most likely to need to perform at our best in the particular trading environment.  

What's in your trading psychology playbook?

Further Reading:


Monday, August 19, 2019

The Building Blocks of Success

How do people achieve and sustain very high levels of success?  Research suggests that there are several building blocks:

1)  TALENTS - These are the competencies we are hard-wired for; our inborn, native strengths.  From an early age, most children display areas of relative strength and weakness.  Sometimes there is a very high degree of early talent, as in the recent case of Kodi Lee, the blind, autistic singer/musician on America's Got Talent.  As a young child, I devoured books on Greek and Roman myths and then became engrossed in books about human potential.  Even now, it's what I gravitate to when I have free time.

2)  SKILLS - Skills are the competencies we develop as the result of experience.  Through ongoing deliberate practice, we can correct errors and build on successes to hone our performance.  Skills are what we drill on the tennis court or football field during practice; they're also what we naturally develop when we systematically pursue areas associated with our talents.

3)  MINDSET - Our psychology cannot substitute for talents and skills but very much can enhance or hinder our access to these.  I outline how this happens in the recent Forbes article, noting that life experience leads us to emotionally encode both patterns of conflict and success.  When the relevant emotions are triggered, this can either hamper or facilitate performance.  

A very important principle is that we are most likely to maintain optimal mindsets for performance if we are truly aligned with our talents and doing what we do best.  Elite talent fuses all three factors, so that our mindset energizes our skill development and that makes the greatest use of our talents.  This is why our passions often point the way to our purpose.

Further Reading:  


Thursday, August 15, 2019

Common Mistakes I See Traders Making

It's interesting to see:  for quite a while, traders lamented the lack of volatility in the stock market.  Now that we're seeing an elevated VIX and larger daily price ranges in the index products, a new set of woes has come to the fore.  Many traders are perceiving an enhanced opportunity set, but are having problems capitalizing on it.  Here are a few mistakes I see traders making recently:

1)  Assuming that patterns that worked when VIX < 12 will work similarly in the higher volatility environment.  When we have elevated volatility, the greater movement is present across time frames.  What was a good, tight level for a stop loss point will be blown through in the higher volatility environment.  Simply adjusting stops linearly with volatility also doesn't work, as each unit of trading volume produces more movement, precisely when volume is expanding.  It is not a linear function.  Another example is that traders assume that oversold points, for example, will lead to bounces.  In the low VIX environment, which is often one of rising prices, that pattern may work.  When we get significant downside, short-term oversold can easily lead to further oversold.

2)  Overexcitement.  Traders equate movement with opportunity.  That's not necessarily the case.  Movement is only opportunity if we have studied/backtested it and made sense of it.  In the heat of overexcitement, traders will size up positions right at a time when their stocks or indexes are already providing more movement.  The combination of larger size and higher volatility leads to much larger P/L swings, which can lead to debilitating losses and a much worse mindset going forward.

3)  Poor review processes.  In the busier market environment, traders do more trading and leave less time for reviewing and studying their trades.  At SMB, traders work with the "playbook" concept introduced by Mike Bellafiore.  Just as a quarterback and football team works with a playbook to prepare for games, traders have playbooks of the trading patterns that they have tested and successfully employed.  Per the first point above, traders forget to update their playbooks when market conditions change, just as football teams change their playbooks to exploit specific opponents.  But a changing market environment should call for a doubling down of review, to clearly identify what is working in the new regime.  If traders become so busy trading that they spend less time grading their performances, setting goals, and making adjustments, they will underperform the perceived opportunity set.

The key takeaway is that we always play in unique environments.  For the professional bowler or golfer, one tournament site is not like another.  For the football or soccer player, field conditions can change.  Many of the mistakes we make as traders involves failing to make the right adaptation to the environments we find ourselves in.  All the self-help mantras and techniques will not help if we fail to identify and make the right adjustments to today's conditions.

Further Reading:


Monday, August 12, 2019

Three Key Ideas Of Trading And Spirituality

Around month's end, I will be releasing my new book, Radical Renewal, which is quite possibly the first book to explore the relationship between trading and spirituality.  It will be an online book written on a blog platform, which means that it will incorporate many links and will be free of charge to anyone with an online connection.  It's been a joy to write and will be an absolute pleasure to give to the trading community.

In a recent podcast with Steven Goldstein and Mark Randall, we explored a few basic ideas of trading and spirituality.  Here are three big ideas from the coming book:

1)  Many of the problems of trading do not come from diagnosable psychological disorders, but rather come from intrusions of the ego into the trading process.  It is when we become self-focused and focused on P/L that we are most likely to lose our feel and understanding for markets.  

2)  The answer to our trading problems is not so much self-help and self-improvement, but rather self-transcendence.  We need to transcend our "small selves"--who we identify with in day to day experience--and step back to find our larger selves.  Tapping into our larger identities provides us with meaning and energy.  Our best trading comes from the soul--the larger self--and not from the ego.

3)  The major spiritual traditions of the world provide techniques and paths for us to cultivate our spirituality and access our larger selves.  Our strengths define our essence:  what we are good at and what speaks to us.  A spiritual life taps into those strengths to ground us in an overarching life purpose.  

There is much more to spirituality than doing a meditation exercise a few minutes each day.  I look forward to exploring this with traders in an interactive format and in a practical fashion.  Thanks to Steve and Mark for the opportunity to discuss some of these ideas!

Further Exploration:


Thursday, August 08, 2019

Two Ways of Achieving Trading Mastery

How do we achieve mastery in a performance field?  Let's use athletics as an example.

One path to mastery is learning from experience.  That is why coaches sit down with teams after a contest and review game film.  Watching the film in slow motion and keying on what team members did right and wrong helps cement goals for improvement in the minds of the players.  That intensive review is common among chess champions.  It is also something I've seen among successful traders.  They will replay the market day after a long day of trading and walk themselves through the "game film", noting areas of good trading and areas needing improvement.  That review turns every day of experience into a day of learning, doubling our exposure to key patterns that might set up the next day.  Learning from experience also takes place among traders when they share their lessons.  This occurs among the teams I work with at trading firms and is also shared online as learning lessons by the teams at SMB.  Online trading communities, such as those mentioned in my recent post, are also great forums for learning from the experience of others. 

In short, the first path to mastery is accelerating our learning curves by reviewing our performance and viewing the performance of others.

A second path to mastery is increasing our overall capacity for learning.  Again, we can turn to athletics for an example.  Much time is spent between games doing physical conditioning and running drills.  When we hone our skills and improve the shape we're in, we can make the most of our experience.  Recently we've seen an explosion of brain training applications for athletes, helping them master their psychology and also master actual brain functioning.  We're in very early days of understanding the brain activity that contributes to successful trading.  By conducting exercises to increase our attention/focus (such as meditation) and our processing of information, we create drills that can prepare us for "game time".  Again to use an analogy from sports, we can develop the best plays and review them but we won't win if we're out of shape.  Drilling the right brain functions may be the next edge in performance mastery for traders.  

I've often mentioned that successful performance professionals spend more time working on their game than in actually playing.  Years of preparation and training go into the making of an Olympic athlete, dance pro, chess grandmaster, or basketball star.  For every hour of game time, there are many hours of practice, drills, and review.  That is how we achieve mastery.  We often focus on what we're doing during market hours, when it's the hours outside of competition that make us champions.


Monday, August 05, 2019

How To Overcome Fear Of Failure

I've been engaged in an intensive research program exploring unique edges in the market.  The gist of the research is an identification of "who is trapped" in the market when buyers can no longer lift the market and sellers cannot push it lower.  The research is promising (note the recent post on market strength), but it has come with a unique challenge.  The anticipated unwinds of buyers and sellers play out over multiple days and rarely in a straight line.  That means that anyone seeking to benefit from those unwinds has to endure temporary, but very uncomfortable, adverse movement and drawdown.

That really is a challenge, because sometimes the trade idea itself will be wrong.  In such a situation, it can be difficult to distinguish between normal adverse movement and just plain being wrong.  The fear of failure and loss makes it easy to cut the winning ideas short or stop out of eventual winners.  As I recently tweeted, conviction in our trades matters little if we lack the courage of our convictions.

So how do we deal with this discomfort and overcome the fear of failure?  Here are three approaches:

1)  Adjust the Trading - We're accustomed to thinking about how our mindset affects our trading, but how we trade also impacts our psychology.  When we extend our holding period, we are increasing the variability of our returns.  In essence, holding trades longer is sizing up.  If we trade too large over a longer holding period, the adverse movements may not be tolerable.  We need to size positions so that they will matter if they work out, but won't debilitate us if they don't.  We can't win the game if we can't stay in the game.  A second trading adjustment is that I will put on small size initially and only add if I see growing evidence that a top/bottom has been put into place.  I'm not trying to call precise tops and bottoms.  If I am anticipating a good move in the market, I don't need to capture every tick.  Finally, I find it helpful to distinguish between the trade and the idea underlying the trade.  The trade is simply a way to structure good risk/reward in pursuing the opportunity of the idea.  If the trade doesn't work out, I want to stay on the front foot intellectually and ask myself what I would need to see to re-enter the market.  That's only possible if the initial trade is sized moderately, giving room to re-enter.  In short, we want to trade with full awareness of the possibility that this particular trade may not work out, so that stopping out is not failure, but an opportunity to reevaluate the idea.

2)  Adjust the Body - I'm a big fan of using deep breathing and visualization exercises to prepare for adverse outcomes.  The idea is to visualize what we're afraid of in vivid detail (getting stopped out, for example) while we do two things:  a) breath deeply and slowly and keep ourselves calm and focused; b) continue the visualization to include how we would deal with the stop out, how we would talk to ourselves, etc.  This trains mind and body to not overreact to setbacks, normalizing our responses and making it easier to accept losses as part of a bigger picture of winning.  Performance anxiety occurs when fear of outcome interferes with the process of doing.  If we can train ourselves to not overreact to negative outcomes in our pregame preparation, that training carries over to our actual performance.  When trades move against us, we can take deep breaths, place ourselves in a state incompatible with anxiety, and then visualize how we will deal with the situation.  The key is normalizing setbacks so that they don't feel like catastrophes.

3)  Adjust the Attitude - It's important to get to the point where it's possible to embrace our losses, because those can be our greatest learning opportunities.  Our losses are there for a reason.  They can teach us to become better.  Perhaps we need to improve our trading ideas.  Perhaps we need to improve how we express those ideas as trades.  Perhaps we need to improve our sizing and management of the positions we enter.  Perhaps it's our lifestyle and states of mind/body that need work.  What can we take away from losing that will bring us to winning?  If we can use our losses to study our game in greater detail and make incremental improvements in our processes, then those losses are no longer threats.  They are our teachers.  We won't overreact to losses if we can embrace them.  We are fallible.  We will fall short at times.  Those can be great opportunities to start again, smarter and wiser.

Very often, traders will have good ideas but will set stops so close that they never participate in the anticipated movement.  They are playing to not lose, not to win.  Their journals reflect frustration, not learning.  It's one of the paradoxes of performance that we are ready to win when we are no longer threatened by loss.


Friday, August 02, 2019

Staying Up When You Have Been Drawing Down

I've received a number of emails and comments in response to the most recent Forbes article describing the pain of losing in financial markets.  We don't usually talk about losing and how difficult that can be.  It's more fun to speak about success and profits and always getting better.  But that's not the real world.  As the article makes clear, not all who pursue trading can make a living from their craft.  If I'm a tennis player, I may not make the cut for pro tournaments, but I can enjoy my sport at a local club, playing against local competition.  If I'm just average as a trader, I consistently lose money.  That is not sustainable.

Many entrepreneurs build a number of start-ups before they hit upon a winning idea and execution.  Years of ups and downs, wins and losses, precede any appearance in the Olympics.  In most performance domains, losing is a necessary part of winning.

If you have been drawing down in your trading, what is most important is to step back and ask yourself a couple of key questions:

1)  Am I looking for opportunity in the right places?  So often, the difference between success and failure lies in what you are trading.  As I mentioned to a young trader recently, you can be the best well-driller in the world and, if you're looking for oil in the wrong places, you'll go broke.  The restaurant that works in the downtown location might fail in suburbia.  You can only know what works by studying traders who are actually successful and seeing first hand what they're trading and how.

2)  Is trading truly my area of opportunity?  As I describe in the book I'm writing (due out later this month), sometimes it's our strengths that derail us, not our weaknesses.  When I tried trading full-time, I found myself interacting with other traders and helping them--and losing trading opportunities in the process.  The reality was that I became a psychologist for a reason.  Being a meaningful part of people's lives is what really gets me up in the morning.  When trading took me away from who I actually am, my trading suffered.  

In the Forbes article, I link to a number of training resources and communities that can help us make the most of our trading.  That can help you determine if there are niches in markets that capture your strengths.  But before you worry about winning make sure you're playing the right game.  What are you really good at?  What gives you your happiest and most fulfilling experiences?  Your wins in life--inside and out of markets--can educate you about who your are and what you do best.  Your losses can be a wake up call, a nudge to become the best version of yourself that you can be.

Tuesday, July 30, 2019

Tracking The Market's Strength

Above we see a helpful chart from the excellent Index Indicators site.  Note that we're hovering near all time highs in SPX, but the number of stocks trading above their 20-day moving averages has been tailing off and now stands a bit above 57%  This waning of strength is also reflected in the intermediate-term new high/new low data, as tracked at  Yesterday, we saw 578 stocks across all exchanges register fresh monthly highs and 605 make new monthly lows.  Even on a three-month basis we had 330 new highs and 316 new lows.  Not exactly resounding strength for an index at its highs.  The average 14-day RSI for the 500 SPX stocks is currently about 54, down from the 60s earlier this month.  

Meanwhile, a number of sectors of the market are trading below their highs, including financial shares (XLF); energy stocks (XLE); industrials (XLI); raw materials shares (XLB); healthcare (XLV); midcap stocks (MDY); and small caps (SLY).  Internationally, we're seeing notable failures to approach new highs among emerging market stocks (EEM) and European stocks (VGK).  Indeed, stocks outside the U.S. as a whole (EFA) have been underperforming.

Volume in SPY has been extraordinarily low, telling us that we neither have bearish catalysts to bring institutions to divest their holdings nor bullish catalysts to justify richer valuations.  For July, we've averaged about 49 million shares traded daily.  Compare that to an average volume of almost 84 million shares this past May.  It may well be the case that it will take a distinct catalyst to bring market participants off the sidelines and generate the next significant market leg.

It's been helpful to stay open minded and flexible on a day-to-day trading basis, but I am completely on the sidelines in my investment account.  I need to see evidence of breadth strength to justify a longer-term bullish position and so far that evidence is missing.

Further Reading:


Friday, July 26, 2019

Wiring Our Brains For Trading Success

A major theme of this blog and the Trading Psychology 2.0 book is that success in trading is just as much a function of cognitive strengths as personality ones.  How we learn very much impacts our ability to pick up patterns in markets and trade them successfully.  Yes, emotional factors can derail our trading, but it is our capacity to process market information efficiently and effectively that ultimately determines our ability to trade well.

An interesting study at CalTech looked at people's brain activity during a trading exercise.  What researchers found is that the capacity to read the intentions of other people was key to understanding what was going on in markets.  In other words, reading the market was not so unlike reading people.  As I reviewed the study, I was reminded of a recent conversation I had with a skilled trader.  He was using a program called Bookmap to identify buy and sell orders in the market, including a historical view of where buys and sells were placed at each point in the market day.  This allowed him to see which orders were being continually placed and pulled in the market (fake buyers and sellers) and which ones represented genuine supply and demand at particular price levels.  It was as if he were at a poker table reading the bluffing and bidding of the various participants.

The above study, interestingly, did not find any correlation between short-term skill in reading markets and skill at solving mathematical and logical problems.  Recognizing patterns in order flow is a different cognitive skill from analyzing markets and finding longer-term opportunity.  Another provocative finding from the study was that participants became better at reading order flow when it was displayed with graphics and not just presented as numbers on a ladder.  How information is organized can help or hinder our processing of that information.

A variety of cognitive skills are important to the performance of athletes, including attention, visual processing, and memory.  Tools are available to assist in the perceptual-cognitive training of these skills.  Research is under way to identify the neurophysiological factors associated with peak performance and ways of training for those.  Traders typically focus on patterns to trade and secondarily on keeping themselves calm and in a good mindframe.  Might it be the case that wiring our brains for trading success is less about finding "setups" and patterns to trade and more about cultivating our degree of focus (concentration); our breadth of focus (flexibility of perception); our strength of focus (ability to sustain effortful information processing); and our depth of focus (ability to take in more information at one time)?  

This is an area of tremendous promise.  If we were trying out for a sports team, no doubt we'd work out in a gym.  If we're trying out for trading success, perhaps a mind gym is what we need.

Further Reading:


Sunday, July 21, 2019

How Do We Make Changes In Our Trading?

There are many different approaches to change in the world of psychology.  A fascinating body of research suggests that these work surprisingly similarly, with similar results.  Although the theories underlying these approaches (psychodynamic, behavioral, cognitive, systems, humanistic, etc.) are quite different, their common effective ingredients account for much of their success.  When I reviewed short-term approaches to change, one fascinating common ingredient stood out:  all the successful therapies begin by shifting the cognitive, physical, and emotional states that we are in.

As I emphasize in my new book, which will be out in August, in our usual states of mind and body, we think and do usual things.  If we want to make meaningful changes in our lives, we have to exit our routines and experience our lives in fresh ways.  This is why newlywed couples go to new, inspiring places for their honeymoons; it's also why we find value in meditation, arts, travel, and celebration.  When we want our lives to feel special, we seek special experiences, not everyday routine.

So often, it is the pull of habit that keeps us from making changes.  Yes, we all need trading routines, but if all our trading is nothing more than routine, we'll achieve routine results.  It is important to follow robust, proven processes, and it is equally important to exit those routines when we want to make meaningful changes in our trading.  That's the tricky thing: we need habit to stick to what we do well, but we need to break habits when what we're doing no longer works.

So how do we break out of our routines and make changes in our trading?

In the most recent Forbes article, I explore a most unlikely topic:  forgiveness and repentance.  What do we mean when we say we repent for something?  It means we recognize that we've done something wrong and want to make amends for it.  It's no coincidence that every major religion embraces formal services for the purpose of forgiveness and repentance.  It's when we stand outside ourselves, look at our selves from a fresh perspective, and feel really crappy about what we see, that we can become filled with a desire to change.  Many life changes occur because we can no longer tolerate the status quo.  At that point, change feels like a need--an imperative--not merely a desire.  That's what happens when an alcoholic hits bottom.  Looking at the consequences of his drinking, he feels tremendous remorse.  In that new state of consciousness, he cannot go back to his old ways.

The article explains how this is relevant to trading.  When we make mistakes in trading--when we overtrade, when we fail to act on our ideas, when we take imprudent risks--we end up betraying the best within us.  We are most likely to make real changes in our trading if we own up to what we have done wrong, feel the pain of that betrayal, and find the courage and motivation to be better than we've been.  It's a kind of hitting bottom, and it's a great purpose for a trading journal.

No pain, no gain is a common slogan.  This is true emotionally as well as physically.  Great things were never achieved inside comfort zones.  It's the trader who can tap into the pain of f***ing up and find a way to forgive--but never forget--that finds the energy to make lasting changes.  Our successes and our failures are there to teach us something, in trading and in life.  Sometimes it's the pain of the failures that brings us back to what we're meant to be doing and to what brings us that success.


Thursday, July 18, 2019

What Is Your Trading Gift?

Here is a question I recently posed to the developing traders at SMB:  What trading do you do that is gifted?

Per Picasso's quote above, our life's goal should be to find where our gifts lie and then make the most of those strengths and passions.  If you have a gift for something, whether it be artwork, sports, or trading, you can point to very specific things that you do that express that giftedness.

The idea is that we shouldn't make a career out of anything we're not gifted in.  Why settle for being OK?  Our gifts are what can make us extraordinary.

When we receive a gift, we are grateful.  We treat it with specialness.  Back in 2006, I needed a new car and, to my surprise, my Mom and Dad wrote Margie and me quite a nice check for a car I very much liked.  Their act was special precisely because I didn't need the gift.  They wrote the check solely out of wanting to contribute to our happiness and success.  You can believe their gift meant a lot to me.  I drive that car to this very day and treat it like my baby.  Even more, that gift inspired Margie and me to always be giving to our children and grandchildren, through gifting, but also by giving of ourselves.  Not out of need, but out of caring.  When we are overflowing with gifts in life, it's easy to share with others.  That is the true meaning of wealth.  

If that car is special to me, how much more so should I treat my life's gifts!  A gift is something we value and treasure and treat with honor.  If you are gifted in your trading, that is the only trading you need to be doing.  Everything else waters down what you've been given and cheapens it.  If you have a trading gift, your only priority as a developing trader should be to nurture and develop that gift.  And if your gifts lie in areas other than trading, that's important to know.  You shouldn't dilute those special gifts by settling for mediocre returns in markets.

So what is your trading gift?  

Only a review of what you do well and a careful analysis of how you do it will reveal what makes you special.  I recently interviewed a trader interested in joining SMB.  He developed three strategies for trading stocks and sophisticated ways of identifying the stocks that could be traded in each of those strategies.  This has given him multiple ways to win each day.  I have no doubt that this individual is gifted in his trading.  His gift is to define unique opportunity and trade it rigorously.  Like so many gifted traders, it's not that he plays the game better than others.  He has found a different game to play and win, based upon his analytical and creative strengths.

When we view our best trading as a gift we've been given, we don't want to be doing anything elseIt isn't discipline that keeps us doing the right things; it's pride and gratitude.  Does the trader I met with feel tempted to play every breakout and trending move?  Of course not.  Do I feel a need to get a new car each year?  Not a thought.  When we truly value what we do--and we truly feel grateful for our gifts--that grounds our actions.  To do anything else would be an unbearable self-betrayal.

In some areas of life, you are gifted.  Somehow, some way, you are meant to unwrap those gifts, hold onto them, and turn them into something special.  Life is way too short to do anything other than what we're meant to be doing.

Further Reading:


Monday, July 15, 2019

Finding Edges In Markets

A few things I've been thinking about regarding trading edges:

1)  I went back to 1994 and tested monthly data for SPY, looking at short-term momentum as measured by a two-period RSI.  Interestingly, a median split of the data found returns over the next 10 months that were over twice as high following market strength as following market weakness.  That is, over the longer time frame, we have seen momentum effects.  Over none of the quartiles, on average, did we see anything close to negative returns.  

2)  What if the rise of algorithms (which often draw upon large data samples to learn patterns) has combined with the risk aversion of portfolio managers and the needs of day traders to create markets that are most efficient on short time frames?  What if the greatest edges are to be found over time frames that traders either cannot trade or do not want to trade?  What if opportunity is more a function of holding period than short term "setups", breakouts, and catalyst-driven events?

3)  A number of daytraders are finding opportunity trading small stocks that are not traded by institutions.  These display a more orderly order flow and clearer trading patterns.  Could it be the case that even greater edges could be found by identifying the time frames no one wants to trade/is able to trade and exploiting patterns within those?  Might there be a significant edge in the ability to hold positions and not stop out when others must?  If one were to optimize that edge, what would the process of trading look like?  How would trading psychology differ?

Might the greatest impediment to trading success be the *need* to trade?  

Might the greatest opportunities exist at time frames no one looks at?

Further Reading:


Friday, July 12, 2019

Looking at the Market Through Different Lenses - 4: Momentum

A great way to lose money in financial markets is to play the same game as everyone else.  Yes, copying the masters is an essential phase of the learning process, as for artists.  At some point, however, you copy Master #1, Master #2, etc. and out of that learning find your own style, your own voice.  For the greats, the synthesis is something wholly new.  They don't just play the game better; they play a different game.  Impressionist painting is not a better form of realism; trading risk parity is not a better way of trading market direction.  Innovation is essential to elite success in markets, as in business and the arts.

Very often, the right question is not, "Why am I not making money in trading?" but rather, "Why *should* I make money with the kind of trading I'm doing?"  If you're looking at the same charts, the same stocks/instruments, the same data as others, why *should* your results be distinctive?

Lack of innovation is a hallmark of mediocrity.  It doesn't matter how much "passion" you profess for trading.  High levels of success never came from being a "me too" performer.

Above is a chart of the recent market, where each data point represents a large number of price changes in the ES futures.  That is, we draw a fresh bar every time ES makes X number of price changes.  As I've indicated in the past, this normalizes market behavior over the course of slower and busier market periods, making it easier to identify market cycles.  The red line is what I call the "Power Measure", calculated over a moving 40-bar window.  It is a rolling correlation of absolute price movement (price range) and net directional price movement (price change).  A simple way to think of the Power Measure is to consider whether the green (up) bars on a chart are larger or smaller than the red (down) bars over a given lookback period.  That is, are we seeing more upside or downside momentum?

Interestingly, the Power of a market is relatively uncorrelated with its rate of change.  Some deep thinking about high and low momentum up and down markets bears fruit.

Note how negative Power readings (downside momentum) occurring at higher price lows offer good buying opportunities; positive Power readings (upside momentum) at lower price highs become candidates for selling.  If upside and downside momentum cannot generate fresh price highs and lows, we have a situation in which buyers and sellers become trapped in their positions.

The goal of this post and the three others in this series (see links below) is not to get you to think about markets the way I do.  Rather, it's to illustrate the importance and value of viewing markets through fresh lenses.  It doesn't matter how much emotional control you exercise in your trading if you're part of the herd in your idea generation.

Previous Posts in This Series:


Tuesday, July 09, 2019

Looking at the Market Through Different Lenses - 3: Volatility

When I model the market, I typically include three variables:  1) a measure of short-term performance; 2) a measure of longer-term performance; and 3) volatility.  I think of volatility as a regime measure, so that--for a given vol regime--I want to see what happens when the market has been short-term and longer-term overbought or oversold.  The most common measure for volatility is VIX, which captures the movement anticipated in the options market (implied volatility).  Another measure would be "realized" volatility, which I measure by a moving average of the average daily true range.

I find value, however, in tracking unique volatility measures.  One, for instance, looks at volume bars in the ES futures and tracks *their* realized volatility.  That measure, which I dub "pure volatility", represents the amount of movement we get per unit of trading volume.  That has been quite helpful as a regime measure, but also helps in terms of sizing positions, as it captures the degree of movement one can expect for a given trading volume.

Yet another measure was one that I created in 2012, a regression equation designed to predict the VIX from two variables:  the net directional movement over a several week period and the realized volatility of the daily bars during that period.  These two variables were very significantly predictive of VIX.  When I looked at the residuals, however, I noticed additional value.  The "excess" VIX--the amount that VIX exceeds or falls short of what it "should" be given the regression formula--tells something about the psychology of the market.  It is the degree to which options participants are anticipating unusually high or low movement.

The excess VIX is plotted against SPY (blue line) above.  Note that spikes in excess VIX have been associated with intermediate-term market bottoms.  When I performed a quartile split on the daily data, an interesting pattern emerged.  Returns have been significantly better than average when excess VIX has been in its lowest and highest quartiles.  Specifically, over the next 20 trading sessions, SPY has averaged a gain of almost +1.2% when excess VIX has been in the extreme quartiles and only +.23% in the middle quartiles.  

What that suggests is that there is a momentum effect when options players price in very low volatility relative to what would be expected and a value effect when they price in too much volatility.  Much of the market's uptrend over this period came from occasions when VIX was priced "too low" or "too high" relative to its norm.  This is an interesting finding, given that the results are entirely out of sample.

This is a good example of the value of assessing the psychology of the market, not just our own psychology.  It's also a good example of the value of going beyond traditional measures to create unique indicators that capture what others miss.  (Note:  the recent Excess VIX has been in its third quartile, where VIX is relatively fairly priced.  There has been less upside edge in the market over the next 20 trading sessions at such times.)

Further Reading:


Sunday, July 07, 2019

Why Trading Psychology Matters

The recent Forbes article poses a key question:  Does your career actualize your self?  In other words, does the work you perform--whether as a trader or something else--serve as a pathway for your development as a person?  

Trading psychology matters because why we pursue profits in financial market matters.  To paraphrase Ayn Rand, the search for self-esteem is the surest evidence of its absence.  If we need profits from markets to feel good about ourselves--if it's all about the calls we make in markets and the moves we "catch"--then we will always be frustrated when the probabilities don't pay off for us.  

Here is an important trading psychology principle:

If you're trading for the right reasons, your market participation will bring out the best in you.
If you're trading for the wrong reasons, your market participation will bring out the worst in you.

Does trading expand you and make you a better human being--one who is more aware and more self-aware; one who is capable of acting decisively on unique insights--or does trading so narrow and frustrate you that you never develop?

We always exist in a relationship with the work we perform, just as we exist in romantic relationships.  The best relationships bring out the best in us.  They inspire us to be more than we are.  The worst relationships are focused on, "What can I get out of this?"  Markets can challenge and inspire us, or they can drown us in narrow self-interest.

Trading psychology matters, because if we have the wrong trading psychology, the odds are good we're pursuing markets the wrong way.  When I work with the traders at SMB, I have the privilege of reading their trading journals.  Some are entirely focused on how much money was made and how much was left on the table.  Other journals make minimal reference to P/L and instead focus on process and self-refinement.  Over time, that difference makes a difference.  

In the Forbes article, I summarize the qualities of self-actualization that have appeared in recent research.  A great self-assessment is to ask yourself how often you experience those things in your trading.  The challenging thing about trading is that it can be a powerful platform for building your strengths--or a certain path to losing your soul.


Sunday, June 30, 2019

Looking at the Market Through Different Lenses - 2: NYSE TICK

The first post in this series took a look at cumulative fresh monthly highs minus monthly lows among all listed stocks.  This is a nice way of capturing intermediate term strength and weakness among shares, as we should see more new highs than new lows during solid uptrends and vice versa.  As we saw in the post, the recent strength in the large cap stock indexes has not been confirmed by the cumulative new highs/lows, reflecting breadth weakness, particularly among midcap and small cap shares.

In this post, we examine breadth through a different lens.  Above we see SPY (blue line) plotted against a cumulative line constructed from the five-minute values of the NYSE TICK.  Recall that the TICK ($TICK on most platforms) is a real time measure of the number of NYSE shares trading on upticks minus those trading on downticks.  By adding the values to one another over time, as we do with advance-decline lines, we can gauge whether there is overall more buying or selling pressure in the market.

Note that the cumulative TICK has tended to top out ahead of the market, reflecting growing selling pressure even as SPX makes new highs.  This pattern is seen at present, as the Cumulative TICK is well short of its highs of earlier this year and early in 2018.  Again reflecting relative weakness among the smaller cap components of the NYSE Index, the Cumulative TICK has been particularly weak during this most recent rise in prices.

All of this gives me pause regarding the intermediate-term outlook for stocks.  Price has moved higher, but fewer stocks are participating in the strength.  This pattern has been playing out with a vengeance globally.  If we look at weekly charts of European equities (VGK); global stocks minus the U.S. (EFA); and especially emerging market shares (EEM), we can see significant relative weakness with respect to U.S. stocks.  Those same weekly charts reveal relative weakness across many sectors of the U.S. market, including XLE (energy); smaller cap shares (IWM); financial shares (XLF); homebuilders (XHB); and raw material stocks (XLB).

In the past, lengthy periods of breadth divergence have given way to meaningful bear markets, as many bulls are trapped in their positions and eventually have to protect their profits.  This occurred in 1999-2000 and again throughout 2007-early 2008.  The current divergence from early 2018 through the present is not encouraging in that regard.  I need to see a meaningful pickup in breadth to justify a medium-term exposure to stocks.

Further Reading:


Thursday, June 27, 2019

Looking At The Market Through Different Lenses: 1 - Cumulative Highs/Lows

In these posts, I will take a look at the overall U.S. stock market (SPY) through some non-traditional lenses that help inform my view.  The key is not getting stuck viewing the market through any one lens, but rather using the different perspectives to synthesize an overall market perspective.  This is fundamentally a creative process, assembling information into fresh views.

Above we can see SPY (blue line) plotted against a cumulative line of daily fresh 20-day new highs minus 20-day new lows for all exchange listed shares.  (Raw data from  The idea here is that breadth will be expanding over time for strong markets and waning for weak ones.  As markets top out, they become more selective in their strength, with certain sectors holding up well and others leading the way to the coming decline.

Note that we have made marginal new highs in SPY recently, but the cumulative line has failed to confirm.  It appears we are making a lower high in that line currently, given the relative weakness of smaller-cap shares.  This pattern of extended non-confirmation of the cumulative line showed up in 2007 prior to the large decline of 2008.  I treat this information as a cautionary signal for the market longer term, but do not form a market opinion solely upon one such yellow flag.

Further Reading:


Monday, June 24, 2019

Three Tough Questions Traders Need To Ask Themselves

I work with traders who do a great job of tracking their most recent trades and figuring out what they did right and wrong each day.  What they don't do as well is ask the big questions.  It is like a company that gets better and better at manufacturing their product, but fails to look at the bigger picture of supply/demand for that product.  It doesn't help to get better at making manual typewriters or flip phones when those are becoming extinct.  No amount of focus on tactics can substitute for effective strategy.

Here are three sets of questions traders need to ask themselves periodically:

1)  Is what I'm doing truly unique, or am I simply part of the consensus?  What, specifically, in my trading approach and process is different from what the herd is doing and how, specifically, is that giving me an edge?

These are questions every business needs to ask.  Why should you succeed?  What makes you different and better?  How do you know that you have a genuine edge?  There are many "me too" businesses and many "me too" traders.  It is difficult to think of highly successful business or traders who are playing the same game as their competitors, the same way.  

2)  How am I building my business?  What am I researching and developing today that will help provide tomorrow's profits?  How am I actively adapting to market conditions to find new sources of edge?

Many traders spend all their time trading and very little time developing new frameworks for exploiting financial markets.  They are like businesses that keep churning out a product or service, never adapting to the changing needs and desires of consumers.  Look at the great technology businesses, retailers, and pharma firms.  All heavily invest in research, development, and technology and all have a pipelines of innovations.

3)  How, specifically, does my lifestyle provide me with an edge in this peak performance activity of trading?  What do I do each day to maximize my energy, focus, wellness, and emotional well-being?  How do my review processes actively create new goals and learning for the future, so that I am always growing?  If I saw a professional athlete with my lifestyle, would I expect him/her to succeed?

One dynamic I've emphasized over the years is that performance professionals are always training.  They spend more time preparing to win than actually participating in formal competition.  Can we expect ourselves to be disciplined in trading if we lead undisciplined lives?  Can we expect to maximize our focus in trading if we are continually distracted by our phones, televisions, and chats?  Our time outside of trading is our training for trading, by design and by default.

The above questions make a great backbone for a trading business plan.  Yes, it helps to review trading each day, but it's the overarching plan and vision that keeps us energized and inspired.  As the old saying goes, failure to plan can amount to planning to fail.  We're not likely to reach any distant destination if we don't have a map and travel plan.  Writing out your plan can be a solid grounding that aligns your daily efforts with your larger life goals.

Further Reading: