The Most Dangerous Word in the Trader's Vocabulary

I'm convinced the most dangerous word in the trader's vocabulary is "should". Should can turn a winning day into a psychological loser, when a trader focuses on that move he or she should have traded. Should can make us miserable when we don't live up to our personal or financial expectations. Sometimes we focus so much on how we should trade or on how others tell us we should trade that we drift away from our own talents and interests.

But those sabotages are nothing compared to getting locked into views of how the market should be trading:

* The dollar is plunging, so we should get inflation and the market should drop!

* The market is in an uptrend, so we should rally today!

* We're in a growing deficit as a country; we're mired in Iraq; oil prices are skyrocketing, so we should have a bear market!

I can tell you this: I became a better trader when I started focusing on what the majority of stocks were doing rather than on what I thought the market should do.

On Monday, I thought we should get a higher market on Tuesday. When I saw that fewer stocks were making new highs in the morning even as the ES was moving to new price highs, however, I dropped the should and sold the open.

And, yes, I--like so many participants in the financial markets--lament the high debt, weak dollar, and rising commodity prices. But we have recovered from a steep decline, dollar flows into stocks are above average, and--as of Monday--well over 2000 stocks had made fresh 20-day highs. No matter how much I think the market should go down, it's not what the market data have been telling us.

"Should" puts my judgment ahead of the market's objective reality. And that's why it's the most dangerous word in the trader's vocabulary.

Trading Mentors and Coaches: A Resource Linkfest

In my recent call for this linkfest, I made the distinction between trading coaches (those helping traders with the emotional aspects of trading performance) and trading mentors (those teaching specific trading methods). Both have their relevance, but it's important to not confuse one with the other. This is why I wrote the post on when coaching works and when it doesn't. Many times, especially among newer traders, the frustrations of trading are simply due to a lack of understanding of markets and the absence of any methods that would confer a consistent edge. No amount of working on the mental game of trading can substitute for the knowledge and skill of the successful professional.

On the other hand, even the best trading methods can be undone by performance anxiety, overconfidence, and a lack of focus and discipline. When it is not possible to become your own trading coach, getting help from an experienced professional can be an excellent choice. Similarly, if you're not finding success in developing your own trading approaches, working with an experienced mentor--one who truly knows and trades markets--can be a great aid to the learning curve.

This linkfest consists of services that have been recommended to me either by the coaches/mentors themselves or by readers. It is not intended to be an exhaustive list, and they are not intended to be my personal recommendations (although I can vouch for a number of people on the list). Please use it as a starting point for your due diligence in selecting the services that will be most helpful to you. For additional resources that I've found useful, please check out the Trader Development page of my personal site and the resource list at the end of my recent book.


TRADING MENTORS

Ray Barros - Ray, based in Singapore and Hong Kong, has thirty years of trading experience and conducts an intensive mentoring course to provide correct tools and and skills for traders. He offers one-to-one teaching that assesses the trader's personality, develops individualized trading plans, and teaches the skills relevant to that plan. Ray has also written extensively on the markets and developed a number of unique technical trading tools that he teaches to traders individually and in seminars. My sense is that Ray takes a personal interest in his students and their success, aiding them in setting and reaching trading goals.

Woodie's CCI Club - Woodie (Ken Wood) has been an icon of trading over the past 29 years. He has pioneered and mastered the trading of patterns of the Commodity Channel Index (CCI), rather than price bars. He has been using a chat room to teach his methods for the past ten years and conducts affordable Trade-A-Long seminars to supplement his teaching. A motto of the site is "traders helping traders", and I've personally found considerable mutual mentorship on the site. To his credit, Woodie has used the site to raise over $80,000 for charities.

DLC Profiles - Jim Dalton and Terry Liberman provide individualized and small group learning experiences grounded in Market Profile. They emphasize the entire cognitive process of learning--perception, intuition, and reason--and stress the role of study and practice in the development of mastery. Jim is one of the pioneers of Market Profile, with considerable trading and industry experience. Terry is a developer of innovative Market Profile software (WINdoTRADEr) that facilitates volume analysis within profiles of varying time frames. They also offer a newsletter, articles, and Webinars to support the education.

Linda Bradford Raschke - Linda, one of Jack Schwager's Market Wizards, has been conducting chat-room based education for years. She currently maintains two rooms: one devoted to futures, the other to stocks. I've known Linda for years and have been impressed with her integration of trading psychology into her teaching of trading methods. She also offers basic online services that illustrate setups, provide proprietary scans, and enable access to the transcripts of the daily chat room sessions. Guest educators provide supplementary learning experiences.

Alexander Trading - Joe Mertes and Tom Alexander direct a one-on-one mentoring program that lasts 12 months. The core methodology of the instruction is Market Profile, with an emphasis upon identifying trade location for optimal reward-to-risk opportunities. The instructors, with over twenty years of trading experience each, actively trade their own accounts and have started a fund for accredited investors. They also offer newsletters and conduct educational seminars and Webinars.

Daytrade Team - Founders Landon and Andy Swan and Head Trader Nick Fenton offer subscribers real-time alerts of trading setups, as well as an online trading room. A variety of alert systems are offered, including ones for daytrading, swing trading, and options trading. The online trading room provides real-time commentary and trading, with integrated chat from members. Andy Swan has his own blog and has been trading actively for over 10 years. He's currently developing a new venture: mytrade.com.

Trade Mentor - Bob Lang and Price Headley provide mentoring in such areas as charting techniques, trend identification, and specific trading strategies for options and futures. They also cover trading psychology topics, such as journaling and maintaining discipline. Their mentoring is available on a one-to-one basis through phone consultation and in-house instruction.


TRADING COACHES

Doug Hirschhorn - Doug holds a Ph.D. in psychology, with a specialization in sport psychology. He is co-author of the book The Trading Athlete: Winning the Mental Game of Trading and has extensive experience working with traders in proprietary trading firm and hedge fund settings. He is also a regular columnist for Trader Monthly magazine. Doug works with traders to help them modify destructive trading behaviors in both focus group and one-to-one formats. He also offers seminars, Webinars, and digital downloads. Doug has an impressive bio and I've been proud to work with him in several settings.

Trader Psyches - Denise Shull leads a consulting firm in the arena of trader and trading psychology, teaching traders to deal with impulsivity. The programs, including self-directed workshops and advanced coaching, are based on a systematic approach to the reciprocal relationship between reason, analysis, emotion, and trading results. Two consulting modern psychoanalysts, Dr. Gene Kalin and Dr. Deborah Greene Bershatsky, assist in client coaching through a theory and approach distinctly different from Freudian psychoanalysis.

John Forman - John brings a history as an athletic coach to his work with traders. He also has a strong background in trader education through his role as editor with the Trade2Win site and through his book The Essentials of Trading. John writes a trading education blog and offers coaching services to traders. His emphasis is two-fold: education (helping traders understand the ins-and-outs of markets) and development (helping traders identify the trading approaches best suited to them to develop a comprehensive trading plan). In addition to individual coaching, he offers trading courses through his site.

Dr. Janice Dorn - Dr. Dorn brings a background as a trader and as a physician to her coaching work. She conducts personal and group coaching, as well as live and Web presentations. Her website offers free articles and updates. Dr. Dorn also publishes a newsletter that deals with trading and behavioral neurofinance.


One last piece of advice: With the exception of Woodie's club, these services are offered on a commercial basis and many are not cheap. Traders, especially newbies, need to keep a close eye on their overhead. Investigate before you invest your time and money in these resources; get details, references, and concrete indications that the services will specifically address your interests and needs. A service is only a resource if it offers what you're looking for.

Here Are Tuesday's Blog Links, Market Indicators, and Pivot Targets

Dow Returns Following Extreme Money Flow Days

My recent post found that there have been above average returns since 2005 when we have had 20-day periods of very strong or very weak dollar volume flows in the Dow 3o industrial stocks. But how about a single day of extreme dollar volume flow? Do very strong institutional flows into or out of stocks during a single session affect near-term returns?

I went back to June, 2004 (N = 711 trading days), which is currently as far back as I've taken my money flow database. I calculate Relative Dollar Volume Flow by comparing dollar volume flows to their 200-day moving average. When we have had very strong inflows (Relative Dollar Volume Flow > 2.0; N = 60), the next three days in the Dow Jones Industrial Average (DIA) have averaged a solid gain of .20% (39 up, 21 down). Conversely, when we've had very weak flows (Relative Dollar Volume Flow < -2.0; N = 50), the next three days in DIA have averaged a strong .35% (32 up, 18 down). By contrast, all remaining occasions in the sample average a three-day DIA gain of only .05% (318 up, 283 down).

I will continue to investigate. So far, it appears that money flow data are mediating a momentum effect when flows into stocks are strong and a reversal effect when flows out of stocks are weak. When flows into stocks are strong, strength is likely to be followed by further strength. When flows out of stocks are strong, this represents a broad risk aversion and is followed by superior returns. Weak flows may be more typical of consolidating markets and thus yield subnormal returns over the short run. Clearly it would be interesting to see if these patterns hold during bear market periods and if they hold for individual equities.

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Going With The Money Flow

The more I dig into research regarding dollar volume flows in and out of stocks, the more impressed I am by what I find. I recently mentioned the fly in the bearish ointment: the fact that money flows have been above average for the Dow 30 industrial stocks for 14 of the prior 20 sessions. As noted in today's Weblog perspective, when flows have been strong over the past 20 days in the Dow stocks, the odds of a rising Dow over the next 20 sessions have been quite good. This morning's rally has been consistent with that leaning.

Recall also my post picking an individual stock with superior dollar volume flow characteristics: HCR. That issue is currently trading quite a bit higher on talk of a takeover. It appears that the spikes in money flow did indeed represent footprints from savvy institutional investors.

I will be presenting far more research related to dollar volume flows, both for the broad market and for individual sectors and stocks. In the interim, check out these links, kindly brought to my attention by an alert reader. Here we have Wall St. Journal data on falling stocks with positive money flows; rising stocks on negative flows; and sector flows. These are updated hourly and might be worthwhile starting points for stock screening.

Stock Market Psychology: Perspectives From Dr. Harrison Hong

There is much traders can gain from an understanding of the best academic research into markets. I recently posted links to four insightful articles from Dr. Andrew Lo at MIT. Here are some gems from Dr. Harrison Hong and colleagues at Stanford:

* Where Stock Market Psychology and Pricing Intersect - This overview article quotes a number of researchers regarding how investor/trader beliefs affect the pricing of assets, with varying degrees of rationality among participants.

* Do Industries Lead Stock Markets? - This article finds that specific industries lead price movements in the broader movement over an intermediate time frame. This appears to be due to the ability of industry movements to forecast economic developments that are slow to impact stocks overall.

* Disagreement and the Stock Market - This is a very thoughtful review article that investigates the roles of trading volume and investor disagreement in generating market returns.

* Thy Neighbor's Portfolio: Word-of-Mouth Effects in the Holdings and Trades of Money Managers - This article shows how trading and investment decisions are like epidemics: they spread from one money manager to another.

* Gone Fishin': Seasonality in Trading Activity and Asset Prices - Here the authors find a seasonal pattern over the summers due to reduced short-term trading.

Money Flows in the Stock Market: Reversal or Continuation?

I recently posted on my use of momentum, strength, and sentiment data to assess whether markets are gaining or losing directional tendency. If there's a fourth leg to the table, it would be volume. In particular, I have been impressed by the relative dollar volume flow data and their ability to distinguish strong from weak markets. My recent post found that dollar volume flows into the Dow 30 industrial issues have been positive, although reduced from the strong levels of late 2006.

I'm reading a fair amount of bearish buzz on bulletin boards/forums and also hearing from bearishly inclined readers of the blog. While the sentiment is not quite as emo as after the late February drop, it does give me pause. What has me even more skeptical of the near-term bear case are those dollar volume flow data. The market corrections we've seen of late have been preceded by sustained periods of below-average dollar volume flows among the Dow stocks. We're not seeing that at present. Indeed, out of the last 20 trading sessions, fully 14 have seen above average dollar volume flows (i.e., daily flows greater than the 200 day average).

Let's take a look at the recent historical data. As of Friday, we're up over 3% on the Dow over the past 20 trading sessions. Going back to the start of 2005 (N = 553 trading days), we've had 74 occasions in which the Dow has been up more than 3% over a 20-day period. Ten days later, the Dow has averaged a gain of only -.02% (39 up, 38 down). By comparison, the average ten-day gain in the Dow over the entire sample period has been .29% (343 up, 210 down).

When we divide the strong Dow periods by dollar volume flows, however, a distinct pattern emerges. When the Dow has risen by more than 3% over twenty days and we've had solidly above average dollar volume flows, as we've had recently (N = 37), the next ten days in the Dow have averaged an impressive *gain* of .49% (27 up, 10 down). When the Dow has been similarly strong but we've had relatively weak dollar volume flows (N = 37), the next ten days have averaged a loss of -.53% (12 up, 25 down).

In short, rising markets with strong money flows have tended to continue their ascent. Rising markets with weak flows have tended to reverse. I will be investigating this pattern with other averages and over other time periods. For now, for me, it's a fly in the bear's ointment. Going forward, I'll update relative dollar volume flows for the Dow stocks in the Trading Psychology Weblog.

Stock Market Sentiment and Short-Term Cycles

My recent posts have tracked stock market momentum and new high/new low strength as they relate to short-term market rises and declines. This post completes the trifecta by looking at yet another Trading Psychology Weblog measure, the Adjusted TICK, over the period from March 13th through this past Thursday's market.

Recall that the NYSE TICK is a sentiment measure, tracking the number of stocks trading at their offer price minus those trading bid. The Adjusted TICK subtracts from each one-minute TICK reading the average TICK value over the prior 20 trading sessions and then cumulates the resulting values into a single end-of-day index. This index tells us if traders are more or less inclined to buying or selling relative to the recent past. (A zero Adjusted TICK reading thus means that we have an average sentiment level relative to the past 20 days of trade).

Notice that we tend to see a drying up of negative Adjusted TICK values at market bottoms and a drying up of buying at market tops. This very much fits with the momentum and strength data shown in the recent posts. When we have extreme Adjusted TICK readings--positive or negative--there tends to be follow-through of price movement during the following trading session. Very low Adjusted TICK readings--ones that are neither very positive nor negative--are more common during balanced, range-bound market days.

Combining views from the momentum (Demand/Supply), strength (20-day Highs/Lows), and sentiment (Adjusted TICK) measures provides me with a three-dimensional perspective on two crucial market questions: Are we gaining or losing steam to the upside? Are we gaining or losing steam to the downside? Viewed otherwise, I'm attempting to answer the question of whether the market is likely to move directionally (trend) or oscillate around a mean value (bracket).

That is why I post these indicators every day to the Trading Psychology Weblog. It is also why I post key price levels: pivot-based targets and the daily volume-weighted average price. I am using the momentum, strength, and sentiment data to help me handicap the odds of hitting these price targets during the next trading session. Trending markets will break their previous day's high/low and test the R1/S1 target. Bracketing markets will revert back toward the value region represented by the prior day's average price.

Developing a hypothesis about how the market is moving--and then updating that hypothesis with real time measures of momentum, strength, and sentiment--provides at least one good trade idea per session. We'll either take out the prior day's high or low or revert back to the prior day's mean. My personal trading approach is to identify and ride a portion of that move, finish the trading day by 10 AM CT, and get on with the business of life.

Here Are Sunday's Blog Links and Market Perspectives

TIKI, Inefficiency, and Stock Market Reversals

Friday's AM market: First a volume/momentum extreme, then a price low, then failure of selling sentiment (as assessed by the TIKI, the TICK measure for the Dow 30 stocks; in red) to produce new price lows (ES futures; in blue). Throughout this bottoming process, selling volume dries up. Then buyers are emboldened and lift offers, taking price and volume higher.

In many variations and over different time frames, this sequence of events plays itself out in the S&P emini market. Seeing price, volume, and sentiment on a single screen helps you observe when large sellers are aggressively hitting bids and driving the market lower and when selling dries up and sentiment can no longer produce price lows. The key is observing these sequences so many times that you begin to recognize them as they're forming.

Now I'll get back to the weekend and enjoy some silence. Have a great one--

Brett

Pain and Gain in a Trader's Development

One of the most important steps traders can take to improve their craft is to intensively review their performance. If you think of every trader as a trading system, then it makes sense to see how the system has behaved over a year's time. This will reveal both weaknesses and strengths, aiding in the formulation of goals for self-development.

My favorite form of performance review is also my most painful. Every year I complete my income taxes--by hand. That means that I write out every single trade that I placed during the year in chronological order, along with its profit/loss (P/L). This past year, that meant reviewing approximately 240 trades, roughly one a day.

Yes, there are ways of capturing this information electronically to avoid the hand-numbing task of writing each transaction, but I choose the old-fashioned method. Writing the trades out makes me reflect on them: "What the hell happened here?" and "What was going on in the market then?" Writing the trades makes me sensitive, not only to their P/L, but to their sequencing: How many runs of winners and losers did I have? How far did I draw down during the year? How well did I trade after I had a losing period? What happened following winning periods?

Other important questions that arise during the income tax exercise have been: How many winners and losers did I have? Did that change over time? What was the average size of my winners and losers? How did the size of my largest winners and losers compare?

Such review is a powerful learning mechanism. Recall the world-class trader I recently described. I'm convinced his daily reviews have helped him make that movement from competence to expertise.

So why do so few traders conduct such intensive reviews?

Quite simply, it really is painful. Every mistake--every lapse of judgment and discipline--is laid bare. Too, the review starkly reveals how successful or unsuccessful you truly were. Such review forces us to face the question: What was the return on my investment of time in trading? I suspect many traders would rather not know. They'd rather comfort themselves with vague assurances that they're "working on things" and "learning". They prefer filling out a few emotive lines in a journal and calling that review.

But with the pain comes gain. My past reviews found that a handful of large losing trades were greatly reducing my P/L for the year. No longer. I became so disgusted looking at large losing trades that I simply cut them out. Out of 240 trades in 2006, none lost anywhere close to 1% of my total trading capital. My largest drawdown the year--from equity peak to trough--was on the order of 2%. I was profitable, not because I made so many great trades, but because I stopped losing. And I stopped losing when I started hating losing. And I only *really* hated losing when I had to write it down, face myself in the mirror, and truly feel the pain and disgust with how I was interfering with my own success. That emotional connection is critical to the process of change.

You'll never hear me prattle about positive affirmations and turning positive images into reality. It's the hard, painful looks in the mirror that have brought me progress as a trader. Maybe that's why I've always admired alcoholics who truly work their AA programs, conducting fearless moral inventories and making amends for their pasts. I also admire the soldier who stands steadfast before his commanding officer's critique and responds, "No excuse, Sir!", with resolve to rectify mistakes. I respect companies like Toyota that scrutinize every weakness of their production processes; bodybuilders that relentlessly focus on each muscle group for development; and NASCAR pit crews that meticulously film and review each stop, in hopes of shaving a mere fraction of a second from routine maintenance.

In times of peace, Nietzsche wrote, warlike individuals turn upon themselves. They create their own discomfort...and thereby generate the motivational thrust for new rounds of self-improvement.

They find their gains in pain.

Here Are Saturday's Blog Links and Market Views

Stock Market Strength And Short-Term Price Cycles

I recently posted on the topic of momentum and short-term market cycles. In this post, we'll look at market strength, as measured by 20-day new highs and lows, and those same cycles. Both of these are indicators tracked daily in the Trading Psychology Weblog, so that you can easily follow whether markets are gaining or losing momentum and strength.

The chart above takes us from March 13th through April 12th in the ES futures. (The last bar is the preopening futures for April 13th; the bar labeled H is the futures performance while the market was closed for the Good Friday holiday). Alongside each daily bar are two numbers. The top figure is the number of stocks on the NYSE, NASDAQ, and ASE making fresh 20-day highs. The bottom figure is the number of stocks making new 20-day lows.

A strong or weak market should expand new highs or new lows. It's when we see a stalling out of new highs or lows that reversals are more likely to occur, as market movements become more selective.

Note from the chart above how an expansion of new lows precedes price weakness in the S&P futures. Note also how an expansion of new highs often precede market rises. This is very useful information in anticipating market turns.

On the other hand, when we have strong expansions of new highs or new lows, I generally look for price movements to show continuation the next day. That is very useful in framing occasions to hold onto trades overnight, particularly during strong markets that have followed oversold conditions.

You can see from the chart one reason I am concerned about the recent market. Although we're hovering near multiday highs, we're seeing an expansion of new lows among stocks. This suggests that the market rise is becoming increasingly selective.

The new high/new low data are also useful in comparing the strength of one short-term cycle to the previous one for a longer-term trend perspective. If the market is in a longer-term uptrend, each successive short-term cycle should show expanded new highs. Conversely, a longer-term downtrend will expand new lows from one short-term cycle to the next. When one cycle fails to expand on the one previous, we often lapse into a longer-term consolidation, which frequently precedes trend change on that longer time frame.

Finally, tracking both momentum (Demand/Supply) and strength (New Highs/Lows) provides a multifaceted view of whether markets are gaining or losing the ability to sustain a trend. In my next post in the series, we'll examine how Sentiment enters the picture for a three-dimensional market view.

Dollar Volume Flows Into The Dow Industrial Stocks

I thought I'd update my research with Dollar Volume Flows. Here is the Dow Jones Industrial Average ETF (DIA) plotted against the relative flows for the 30 individual Dow stocks. Recall that the relative flows track how many dollars have come into the Dow stocks over the past ten sessions compared with the past 200 sessions. More on dollar volume flows can be found here.

What we see is that, for the Dow stocks as a whole, flows have been positive, but below the levels seen during the stock runup from July to February. My concerns for this market are twofold: 1) We appear to be tracing lower highs in money flows; and 2) Bounces in money flows are not pushing the Dow to new highs. I would call this a yellow light; not a flashing red alarm. It simply tells us that institutions are not putting money to work in the Dow stocks following the recent decline the way they had been previously.

Among the Dow stocks, we see outright negative flows over the past ten sessions in DIS and MSFT. Flows into XOM have been particularly strong on an absolute basis. On a relative basis, the last ten sessions have shown greatly improved flows into HD and INTC. I'll be keeping my eye on housing and semiconductors as a result to see if this represents bargain hunting among institutions. Another stock with significantly improved flow over the past ten sessions is WMT.

In short, we are seeing positive money flows into the Dow stocks, not outright net selling. The pace at which large traders and investors are putting their cash to work in these issues has slowed--something I'm keeping a close eye on.

Here Are Friday's Blog Links, Market Indicators, and Pivot Targets

Large Trader Behavior During A Stock Market Reversal

Several readers asked me about the market reversal this morning. Here's a Market Delta chart of the morning turnaround. As always, within each (10 min.) bar at each price are two numbers. The first is the volume transacted during that time when that price was the market bid. The second is the volume transacted during that time when that price was the market offer. Note that the price levels are colored green if volume at the offer exceeds that at the bid (net buying interest), and the color is red if volume at the bid exceeds that at the offer (net selling interest). On the bottom, X-axis, we have two numbers for each bar. The first is the total 10-minute volume in the ES futures. The second is the difference between the volume at the offer and the volume at the bid during that 10-minute period.

What makes this chart unique is that only trades of 200 contracts or more are charted. I'm only looking at what the large traders are doing.

Note that large traders started lifting offers once we got below 1443. We got a nice bounce and then, on the next pullback at the 9:20 AM CT bar, we can see that selling volume among the large traders really dried up. That led to a fierce rally that reversed the morning decline, with significant lifting of offers among large traders. On the subsequent pullback, we hit a negative TICK reading below -650, but note that volume at the bid among large traders was *very* modest. From there we moved steadily higher.

Quite simply, large traders bought the lows and stopped selling the market after the initial decline. We don't know all the reasons why, but I'm not sure that 's necessary. All we need to know is where the institutions and large locals are doing their business within the bid/ask matrix. That reveals quite a bit about their sentiment. And it's something the vast majority of traders, looking at simple bar charts and candlesticks, never detect.

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Stock Market Momentum And Short-Term Price Cycles

In my most recent Trading Psychology Weblog entry, I describe the structure of short-term market cycles. This understanding is very important in framing hypotheses for the next day's trade, which is why the Weblog tracks market momentum and strength daily. While I appreciate the kind comments readers have given this blog, the most important day-to-day trading information I have to provide is actually on the Weblog.

To illustrate the relationship between stock market momentum and short-term cyclical behavior, I've summarized the S&P 500 futures market (ES) from March 13th to the present. Each daily price bar is accompanied by two numbers: that day's Demand reading (on top) and Supply reading (on bottom). Take a moment to study those numbers. You'll see an important pattern: Demand tends to top out ahead of price during rising markets; Supply tends to bottom out ahead of price during market declines. This provides us with a useful heads-up for swing changes in the market.

(Note: The H in the chart represents futures action during the market holiday when stocks were not open. The last bar in the chart represents pre-opening futures action for 4/12 before stocks began trading).

Demand and Supply, as I've noted in past posts, are indices that I construct to summarize the number of NYSE, NASDAQ, and ASE stocks that close above (Demand) and below (Supply) the volatility envelopes surrounding their short- and medium-term moving averages. To contribute to Demand, a stock must have strong upside momentum; to contribute to Supply, a stock must have strong downside momentum. Days in which Demand or Supply is strong tend to be trending days. Days in which Demand *and* Supply are low tend to be range bound days. When Demand or Supply is expanding, I look for the trend in place to continue. When Demand *and* Supply are waning, I look for consolidation. When Demand *and* Supply are very low, I look for a breakout move.

Bull swings lose momentum before they become bear swings.

Bear swings lose momentum before they become bull swings.

Broad momentum market moves tend to consolidate in momentum.

Low momentum markets yield breakout moves in the short run.

Because momentum generally peaks ahead of price, it pays to hold overnight following momentum breakouts, particularly to the upside.

If you watch diligently, you'll see these patterns replay themselves in different variations. You'll also see how these shorter-term cycles become nested within longer-term market trends.

Tomorrow, we'll take a similar look using new high/new low data in place of Demand and Supply and explore some of those longer-term trends.

Here's Thursday's Weblog: Pivot Targets, Indicators, Blog Links

Strong Opinions, Flexibly Held: Lesson From A Morning Trade

One of the first pieces of progress I made as a trader was looking at enough patterns that I could develop strong opinions regarding when demand or supply was shifting in the market. The second, more important step of progress came when I developed the ability to hold those strong opinions flexibly. This morning, I thought I saw the negative TICK readings strengthening when I placed a trade to buy ES at the first arrow. I took a bit of heat in the next two minutes, then watched the market rally...and stall...and stall. Positive TICK readings (green on chart) were not moving price higher. That inefficiency occurs during weak markets, not ones ready to make solid rebounds. I took a small profit and flipped my position (second arrow), covering into the subsequent heavy volume at the bid (third arrow).

Years ago, I wouldn't have made that second trade. I would have stuck with my initial long and then watched a small profit turn into a loss before covering. I would have had a good idea, but not the ability to flexibly modify or overturn that idea. To hold an idea strongly enough to act upon it--and risk money on it--but not so strongly that you're wedded to it: that takes an ability to assess and reassess markets on an ongoing basis. You want to identify with those ongoing assessments, not with any single opinion. There is strength in flexibility.

How To Trade: Blog Linkfest Volume Two

Last week I prepared the first volume of blogs that feature "how-to" trading information on their sites. My intention was to introduce readers to sites they might not have been familiar with. I also assembled a collection of TraderFeed posts dealing with trading methods. This week we'll look at some sites you might be familiar with, but some features of those sites that might surprise you.

* The Kirk Report - Many readers know Charles Kirk's work from his wide ranging collection of links. He also researches hot sector ideas on his site and conducts screens of promising stocks. These are great ways of developing stock ideas for trading and investing. What many readers don't know is that The Kirk Report also contains a site-within-a-site for members who have made a modest donation. (That member site is being upgraded, BTW, and will be rolled out later this week, including a new stock screener. More on that later). Included in the members' site are Kirk's trading notes--including specific stocks he's tracking and trading--and his open positions. He maintains a set of links to stock screens and conducts monthly Q&A sessions for readers. A resources page introduces readers to the tools he uses in his own trading. This is not a daytrading site. Rather, it focuses on stock selection for swing trading and active investing. If stock picking is your edge, this is a fine resource.

* Trader Mike - Readers are familiar with Mike's market recaps and his regularly updated links. Recently, he has also featured very well written how-to daytrading articles from Michelle B. Mike breaks down his trading methods for readers and shares the tools of his trade. He offers perspectives on day trading and outlines his trading results. The "Key Posts" on his home page outline many of the trading ideas he holds near and dear. These provide quite a trader education in themselves. His posts are also broken down in a cloud of "frequent topics", making it easy to seek information on the topics that most interest you. I like the fact that Mike emphasizes risk management and position sizing, not just trade ideas. Great resource.

* Trader X - Trader X offers one of the very best pure how-to daytrading sites on the Web. His style of trading is radically different from my own, but it is very clear that he has a method that he follows consistently, the method exploits stock momentum, and it works for him. Numerous charts on the site illustrate setups and also grade those setups for trading purposes. The site maintains a collection of "key post" links, which describe the essentials of the trading style. He uses candlestick patterns, with an emphasis on price, volume, and Fib levels. Although he shares his trading rules and responds to questions about his trading, he makes it abundantly clear that the way to learn this kind of trading is to study thousands of charts. Grading his setups gives X a high win percentage. Clearly he has thought his methods through and has provided a fine resource for traders by illustrating these methods each week.

Volume Three of the How-To Linkfest is on its way. There are many more sites that offer fine trader education. In my opinion, the sites I'm highlighting offer more practical, actionable content than most high-priced trading seminars. What you learn after scouring them is that there is no one best way to trade. There are many methods and many timeframes. The key is finding models out there, reading about them, trying them out, and seeing which best fits your ways of thinking and your risk profile.

Here Are Wednesday's Blog Links, Pivot Targets, and Market Views

Three Steps To Take If You're A New Trader Losing Money

A reader recently declared herself at wit's end losing money in trading. The learning curve can indeed be very frustrating. In my book Enhancing Trader Performance, I tried to present a framework for thinking about that learning curve and navigating the trail from being a novice to being competent to being expert. Here are a few steps that are worth considering if you're a new trader frustrated by losses:

1) Stop Trading - The first law of developing yourself as a trader is to survive your learning curve and preserve your capital. First develop your trading style by trying out different trading approaches in paper trading mode, preferably through the simulation mode of a trading platform. (Ninja Trader has a free simulation engine worth considering). Make all your mistakes on paper before they eat up your capital. Yes, paper trading is not the same as trading real money, but if you can't make money on paper, you surely won't do it under the heat of real time risk and uncertainty.

2) Look for Guidance - I encourage beginning traders to learn Market Profile theory as a way of thinking about markets. There are also good trading books out there by such folks as Linda Raschke, James Altucher, Curtis Faith, and John Carter. There are excellent trading blogs that detail trading methods and patterns; check out posts from Trader Mike, Trader X, Charles Kirk (including his members' site), Brian Shannon, and some of the ones on this site. Woodie runs free trading rooms, with an emphasis on mentorship. Check that out. There are many resources out there.

3) Keep Meticulous Records - Review which kinds of trades are working for you and which aren't. Keep tabs of your mistakes, but also identify what you're doing that's working. Use each trading session as a learning experience. Your goal is not to make money. Your goal is to learn markets. Expertise takes years to develop. Don't pressure yourself to trade your capital against pros until you're sure you're ready.

Lots of observation and immersion in markets and plenty of experimenting with different markets and trading styles--all are important in advancing the progression toward expertise. When new traders are frustrated with losses, it's usually because they've tried to short-circuit the learning curve.

What You Should Think About Before Seeking A Trading Coach

I'm getting a flood of emails regarding traders' desire/need for coaching in response to the recent posts on self-talk and information-processing biases.

Before a trader seeks coaching, I would encourage a thorough self-assessment. These posts may aid such an assessment:

* Trading Psychology Checklist

* Five Things to Know About Trading Psychology

A trading coach can be helpful for such problems as performance anxiety and tuning out distractions from trading. These tend to be situational problems that specifically impact trading performance.

What trading coaches in the psychological sense *can't* do is teach you how to trade. Nor can they help traders eliminate frustrations that stem from inability to trade well. Psychology cannot substitute for skill-building.

Nor can most trading coaches adequately address long-standing psychological problems that interfere with multiple spheres of life--not just trading. There are licensed therapists and medical professionals far more experienced in such matters.

Some years back, I had a trader at a large firm talk with me about problems focusing, concentrating, and executing trade ideas. A brief assessment found that this was happening in other areas of life. I recommended a full medical workup, and the results showed a hypothyroid condition. The answer to the problem did not lie in counseling or trading. That trader could have spent thousands of dollars and many hours in "coaching"--all to no avail.

Coaching has its value, but also its limits. Before you seek help for a problem, make sure you accurately assess what the problem is. The best treatments are of little value if they're not preceded by solid diagnoses.

Countering Information Processing Biases In Trading

In a post a while back, I likened consciousness to a radio dial, with the various frequencies constituting our physical, cognitive, and emotional states. Powerful emotional experiences create very strong signals that dominate the radio spectrum, subsequently placing us in states that may interfere with our functioning. When those powerful experiences are positive, their dominance is crucial to the creation of addictive behavior patterns. When they are negative, their dominance is manifested as psychological trauma. One of the most important reasons for not trading too large for one's account size is the avoidance of roller-coaster emotional experiences. These lead to self-inflicted patterns of addiction and trauma that disrupt sound decision making.

On a smaller scale, markets create emotional experiences for traders each day. They do so with sudden large movements and shifts in volatility. Memory is not a democracy: not all memories are processed equally. We tend to place undue weight on what has occurred recently, and we tend to overweight emotional events. No doubt there are evolutionary reasons for these cognitive biases: cave man probably needed to focus on threats in the here and now to aid survival. The downside to this legacy is that, as traders, we can place more emphasis upon recent, emotional market events than is warranted by an objective look at market probabilities.

A great example of this is when we're stopped out of a good trade and then fail to take the next good trade because of fear of loss. Another example recently mentioned to me by an experienced, successful trader is getting excited by the recent volatility during the market decline and then overtrading the reduced volatility of the subsequent market bounce. I've been guilty of this myself: becoming so lulled by a slow, rangebound market that I take my attention from the screen and miss the subsequent, tradable breakout move.

Perhaps worst of all, recent emotional experience in markets can provide us with a negative edge in trading. I've written about short-term reversal effects in bull trends and bear trends: markets that have consistently risen over a multi-day period have yielded subnormal returns; those that have consistently declined have risen the most. When we overweight recent market experience, our thinking runs precisely counter to the market's own tendencies. Ever sold the exact low in a market or close to it? That's often a reason why.

I recently mentioned talking out loud as a way of changing our internal dialogues. If you follow my reasoning to this point, you'll see that talking out loud can also be a powerful technique for changing our biased thinking about recent market events. I suspect this is one reason many traders seek coaching: they're looking for someone to talk with to reprocess recent events and start with a relatively clean mental slate. But the efficacy is not in the coach, but the talking! In giving voice to our big picture market views and research, we consciously counteract any tendency to overweight recent market moves and P/L swings.

The same verbal recordings that can be helpful in rehearsing trade plans before trading and in reviewing performance after trading can be of help during market sessions--particularly when we make ourselves listen to what we've recorded. When we become the listener, we gain a measure of distance and objectivity with respect to our information processing. It is much easier to challenge a biased assumption when we hear it out loud than when we're identifying with it implicitly. The idea is to become a skilled observer of your own state shifts, so that you can consciously decide when to act upon them and when they are leading you astray. An audio trading journal can be a very helpful tool in developing this observing capacity.

Here Are Blog Links, Pivot Targets, and Market Views For Tuesday

Call For Trading Coaches And Mentors: Upcoming Linkfest

I recently mentioned some of the factors that contribute to success in performance coaching. In the trading world, the terms "coaching" and "mentoring" are used in a variety of ways, as John Forman has perceptively noted. That makes it difficult for traders to find the kinds of helping that are right for them.

To address this challenge, I'm collecting links to experienced coaches and mentors who work with traders. In several days, I'll post a linkfest that will highlight coaching and mentoring resources.

For purposes of clarity, I'm using these terms in the following way:

1) Coaches - People who help traders with the mental/emotional/psychological aspects of trading, including techniques for improving self-control and trading consistency;

2) Mentors - People who help traders with the actual mechanics of trading; the "how-to" aspects of defining setups, setting stops and price targets, position sizing and risk management, etc.

By this definition, coaches function as counselors for traders; mentors function as trading teachers.

If you are a coach or mentor and would like your website or blogsite to be included in the upcoming linkfest--or if you're a reader who would like to recommend a coach or mentor--please email me in the next few days. My email address is at the bottom portion of the "About Me" section of my blog home page. Feel free to include in the email a brief synopsis of the services you provide and your specific areas of expertise.

My hope is that this will provide a useful resource for traders seeking assistance.

Also stay tuned for Volume Two of my linkfest covering blog sites that teach How To Trade. There's some great stuff out there for traders seeking ideas for self-mentorship!

Thanks as always for your interest and participation--

Brett

Neurofinance and the Anthroscopic Measurement of Trader Performance

In past posts I've written about biofeedback and hemoencephalography as methods for monitoring one's physiological arousal and cognitive focus during real-time trading. By tracking such measures as heart rate variability, a trader can assess--and potentially extend--his or her self control under conditions of risk and uncertainty.

Indeed, this is just the tip of a much larger iceberg regarding the use of computers to aid decision making and performance. Research from Sandia Labs finds that real-time computer feedback about everything from perspiration, heartbeat, vocal inflection, and facial expression aids participants in team-based tasks. Their idea is to turn the computer into an "anthroscope": a measuring instrument of global human functioning. A particularly interesting application is defining those states that occur during "personal best" performance, so that these can be replicated.

Research that I recently cited from Andrew Lo found that biofeedback readings during real time trading distinguished between experienced and novice traders. The latter showed greater arousal during such market events as increased volatility. Might it also be the case that "anthroscopic" readings of traders would find signature patterns of personal best performances, distinguishing traders at their best from when they're at their worst?

David Edwards distinguishes neurofinance from neuroeconomics, defining the former as a direct application of cognitive neuroscience to trading practice. Citing the Sandia research, Edwards compares anthroscopic measurement of traders to the practice of assessing VO2 max among runners and cyclists. Zack Lynch argues that, as sophisticated trading organizations find diminishing returns from their data mining research, they will be drawn toward another source of competitive advantage: traders' computer-based management of their own decision-making performance.

If anthroscopic measurement can aid team-based performance, might it aid the performance of trading teams? Could biofeedback measures be linked to traders' screens to deliver pop-up alerts when traders are out of their optimal performance zones? Are there signature blood flow patterns in the brain or biofeedback patterns that distinguish successful traders from less successful ones, and could these be incorporated into realistic trading simulations to help firms hire promising candidates?

This, surely, is one of the great frontiers in trading psychology. In the near future, I will track my own biofeedback readings during a trading session and post here. Can simple desktop applications assist a trader in real time? Let's see if we can find out.

Here Are Monday's Blog Links, Pivot Targets, and Market Perspectives