Satuki @ Home

2009 and 2010 were  good for most trend followers(bulls) who bought and held tight onto their positions.  2011 was a totally different story.  It was basiclly a big range bound market caused by the problems in Europe. There were many opportunities on both sides.  That is why I like range bound markets better.

How did I do in 2011?  I took a total of 2068 trades and netted $21,316 in a 100k account.  That is around 20%.  As you can see, I fared better in shorts than longs.

Here is what I think I did well

1. A nice equity curve. The draw-downs were very much contained.
2. Traded both sides almost equally.
3.  Risk management was adequate.

Here is what I think need improvement

1. Capital was under utilized. Use a little bit of leverage in 2012?
2.  Exit strategy was shaky when I had a profit.
3.  Emotion control could be better.
4.  More efficient time management.

20k extra cash a year covers a lot of our expenses.  Miranda will go to pre school this year, which will cost us a few hundred dollars a month.  Our monthly health insurance bill will be 50 dollars more.  Health insurance keeps going up every year.  Everything goes up except our incomes….. Talk about inflation!

My short term goal is to reach a stable annual income of 50k/year, which is a livable income in many parts of the US.

I hope you did well in 2011 and have a prosperous 2012.

PS, I will try to blog more in 2012.

Just kidding…  I took 3  trades  in the AM last Friday(6/3/11).  Check them out in the charts below.

One reason I love TradeStation is that it marks all your trades on the screen.   A cyan line means a winner.  A red one means a loser.    So the first one was a loser and the other were winners.  Total profits in the AM were  close to 200 bucks.     I did not trade in the PM since I had to take Miranda to her doctor  for a routine check.   There was a major move in the PM.  Hopefully some of you caught it.

2 long trades

1 short trade

Click the charts to have a better view

The market experienced some dramatic plunges last week.  The worst was the Dow’s intra day drop of 1000 points on 5/6/2010.   I did not trade that day.  But my TradeStation was open and I saw it.  Initially, I thought it was a technical error from TradeStation.  I immediately opened Interactive Brokers and Yahoo Finance.  They all showed the same thing.  While I was scratching my head, it pulled right back up in just a few minutes.  

Now we know that it was caused by some glitches in the Exchanges’ electronic networks. On top of that, I believe machine trading contributed to it too.  However, the market still lost 300+ points on Thursday, which has never happened since March 2009. What made it worse is that the market continued to drop on Friday(5/7/2010)

Before the crash, the market was in an extended overbought state.  But Dow standing around 11000 does not necessarily mean it was overbought. Then what made it “overbought”?  I think it was the continuous rally from 6000 in March 2009 to 11000 now.  That rally had very few meaningful corrections.  This is not good for the overall health of the market.  The market needs constant corrections to inch higher in a healthy way.  Let’s use 2 stocks as an example. One stock shoots up like a rocket. One moves forward 3 inches and then backward 1 inch.  Which one do you think has more stamina provided the fundamentals are exactly the same?

The first stock will crash when it runs out of steam simply because there are many profitable people. Because people have massive profits on paper,they will sell it @ any price when they look for an exit, which will cause a big crash.

The second stock is a lot more stable than the first one. It moves a bit and takes a rest(consolidation or a small correction) during which it can shake off those who are not determined to tag along.  This process is very important for a stock to continuously move higher without much resistance from the profitable sellers.

It is the same with the general market.  A lot of funds(big money)have made massive profits on paper during this rally. They were just waiting for some kind of signals to unwind some of their large profitable positions. The euro zone crisis and the oil contamination were just triggers.

Personally, I do not think this is the start of a prolonged bear market like we had in 2008 and 2009.  The overall fundamentals just do not support it.  However, we might face a mid term correction here since this drop is big.  We will perhaps see a few violent fluctuations in the next 1-2 weeks.  If it bounces higher, It is a good opportunity to unwind some of your long positions.  The worst at this stage is being fully loaded with net long positions.  Remember you should always close your weakest positions first. Never average down.

Safe Trading

Different trading styles dictate different stock picking methods. Today, I would like to share mine with you. 

If you have been with me for a while, you perhaps already know my trading style. If you are new, then my trading style is High Frequency Trading (HFT). Do not confuse scalping with HFT. They are totally different. I used to think HFT was scalping due to the sheer number of my trades.  After looking deep into my past trading, I found I did try my best to hold onto a winner.

I normally select a basket of 50 stocks every month and choose the strongest 5-7 and the weakest 5-7 among them every day for each direction (long and short). How do I select these 50 stocks every month? First, they should be liquid stocks, which include the mid cap and the large cap.  Small cap is fine once in a while.  But micro cap and mega cap are absolutely excluded. 

Second, it should have a high beta.  Beta is used to measure the volatility of a stock against S&P 500.  If it is less than 1, it means this stock is pretty flat or less volatile than average stocks. Hence, there are relatively few opportunities in either direction.  You can find the beta of your picks on Google Finance.

For exmaple, OSK (Oshkosh Corporation) has a beta of 2.77,which makes it a solid day trading stock. RIMM(Research In Motion Limited) has a beta of 1.88, which is very nice too.

On the other side, WMT(Wal-Mart Stores, Inc.) has a beta of 0.26, which means it moves like a 90 year old most of the time.

I recommend stocks with a beta > 1 at least.

Third is that the prices of my picks are normally more than 30 dollars.  Occasionally, I drift into stocks in 20s. I never touch anything in the teens or below.  It is just a personal taste though.

Fourth is that the basket should be broad enough to accommodate a lot of different sectors

It is easy to put all these criteria into a scanner. With a click of a button, it will spit out things you want.  There are a few free scanners you can use. There are also good commercial ones too. I will talk about them in the future.

Ok, now we have a basket of 50 candidates. Do we need to scan them constantly during our trading sessions? No. It is a common mistake that a lot of traders make. They are so busy scanning the market that they can not even focus on trading. A lot of them constantly chase hot stocks. By the time, they find a stock hot, it is already too late.  For example, the OSK trade I took last Friday.  See the timestamp I posted my entry. It just moved too fast for most people to jump in.

Before the market open, some stocks from my basket are already showing activity. So I normally choose 5-7 strongest and 5-7 weakest and then watch them closely throughout the day. Among these 10 or so stocks, one or 2 are bound to make a move every day. My objective is to catch them and keep my losers very small in the meantime. 

In addition, these 10 stocks should be from different sectors.  You can not have ABX, GG Or AEM at the same time since they are all gold related stocks.

As for how to trade them is a totally different story because there are so many different patterns. To have a pair of egales’ eyes to recognise these patterns requires that you work until your tail falls off.

Here is the trade I took in OSK last Friday. Click on the image to have a better view.

 
Here is the recap

Step 1: Select a basket of 50 stocks which should be 

1. Liquid
2. High beta
3. 30 dollar above(optional)
4. A diverisfied basket

You can just copy from my watch list. OSK is sitting right in the list.

Step 2:  Select 10-12 out of the 50 every day

1.  A few strong ones for the long side and a few weak ones for the shrot side
2.  Watch these guys only.
3. They should be diversified too.

It is my main method. I also trade news related stocks.

If you google High Frequency Trading (HFT), you will find a few definitions. One is that big traders use high powered computers to gain advantages that retail guys like you and me do not have. I have a 2 year old computer, which is 10 thousand miles away from being high powered.

Another definition is that HFT is a scam since it uses flash orders to have hidden bids or asks exposed. If this is true, then this is a huge loophole in our system.

HFT gained its notoriety in 2008 because it was wildly successful.  But for retail foxes like you and me (look at the stock market as a jungle. Mutual funds are elpehants or lions. You and I are foxes and there are a lot of other creatures between them and us.), we certainly do not have a super computer. But we are super nimble. Thus we can have our own version of HFT.

All traders are hunters including foxes.  We hunt things that are smaller than us. But we are being hunted at the same time. By employing HFT and our nimbleness, we could rapidly get out of harm’s way and yet still have a good chance to catch our prey.  Here are  the main characteristics of HFT.

1. Very high frequency of order executions
2. Pounce on every possible moving target you perceive as your prey.
3. Run for your life the first moment the prey smells like your predator.

HFT is a strategy.  To implement your strategy, you need to have some tactics that are suitable for HFT. I recommend tape reading. Your HFT tactics should be as simple as possible. If you are using more than 3 indictors at the same time, you will have a hard time implementing this strategy because they will confuse the living thing out of you.

 
One very important point to bear in mind is that you do not have time to think in HFT. Your thinking is done when you are not trading. After a lot of practice and zillions of trades (exaggerated), it becomes an instinct.

One shortcoming of HFT is that it will rack up your commission as we can see from my monthly report in Dec 2007 below.  The commssion for that month was about 1500. But again, $6986.11 was the net profit for that month. Some people are worried about commissions.  It is understandable if all the money you make goes to your broker.  However, if your system brings home a net monthly profit of 5000 and also generates 5001 in commission, you would not stop trading just because your broker is making so much by piggybacking your hard work, right?

Click on the image to have a better view

As we can see from the report above, I took a total of 424 round trip trades that month, 271 longs and 153 shorts. The profit for that month is $6986.11,  $3459.11 from the long side and $3527 from the short side. The profit factor was 1.41, meaning that for every dollar I lost, I made 1.41 dollars.

One reason that I adopted high frequency trading is to minimize draw-downs. The other is to make the best use of my money because I was running a tiny account of 50k and I never used leverage.

I had that kind of performance throughout 2007 until I hit a big snag in Jan, 2008 and lost my touch/mojo/instinct ever since. My trading is not fundamentally flawed. However there were a few small issues I needed to fix. That is why I reduced my trading to very small positions.

I had a flat year in 2008.  But looking at the performance of my 2009, I think I am on the right track to restore my instinct.  It is a lot of work, tenacity and time.  As you can see in my case, the gap would be 2 years if I could manage a come-back in 2010. Or maybe I will need another year.

Foxes might be tiny. But they can be mean too…

 I have taken about 1600 trades so far in 2009, which averages 160 or 80 round trip trades, per month.  Back in 2007, I averaged 40-50 round trip trades per day.  Yeah that is right because I was a scalper, whose average holding time was around 2-3 minutes.  For some super scalpers, 100 round trip trades per day is not considered over trading.  For others that like to milk every bit out of a position, 5 trades per day might be over trading.  Therefore, we perhaps can not use that as a criterion to see if one is over trading or under trading.  The number of trades a person takes might very well be just a matter of different trading styles. 

My current trading style is like a holder or a “day investor”, who intends to hold onto a winner for as long as humanly possible. This strategy has been working nicely so far this year.  However, I do under trade.  Here is why.   I have 75k sitting in my account.  And TradeStation gives me 4 times leverage for day trading, which is 300k daily purchasing power.  However, I have a hard time utilizing my 75k buying power to the fullest extent, not to mention the leverage. If you have been with me for a while, you know that I rarely have more than 30k worth positions open at one time.  For example, I took one long trade in AIG in the morning today, which was worth about 7000 dollars.  That was the only trade in the morning.  Then there was another long trade in PNC in the afternoon, which was worth only 10000 dollars.  After I closed my PNC trade, I took 2 shorts together, one SLG and one IOC, whose combined position size was slightly over 10000 dollars.  It looks as if I only needed 30000 trading capital. Ha-ha, talking about under trading. And this is it.

Some friends asked me if I could trade their accounts.  Now you see what problems I have with trading others money.  I can not even take full advantage of my own capital.  Anyway, here are 2 of the trades I took.  I will spare you the 2 shorts which were basically flat.

2 pictures are worth 2 thousands words.  I do not know what to explain.  After so many trades, trading has become a subconscious activity for me.  If you have questions, feel free to ask in the comment section.

Click on the image to have a better view

AIG

PNC

Here is the timeline of my entries

There is a lot of aspiring day traders out there.  I think that they would ditch their day jobs in a heart beat if they know they could day trade for a living. This statement is not exaggerated considering all the freedom that trading can bring you.

First of all, let’s define what a successful day trader is.  A successful day trader is not necessarily some one that makes millions a year.  It is someone who can consistently reproduce his income that he would otherwise make from his day job. There is no stress/dramas/draw-downs since trading has become a routine for him day in and day out.

This is the ultimate goal that an aspiring day trader needs to reach. We all know that the success rate of reaching that goal is quite low. Or everyone around us would be a day trader.  But there are extremely successful examples around us too.  These successful day traders worked their butts off and sacrificed a lot to get where they are today. Hard work is the only answer.  But here comes a dilemma for an aspiring day trader. 

This typical trader normally has a day job. He went to a four year college and got a job that is paying him 70k per year now in a small town.  That money is decent although he has to deal with a lot of BS at work.  He dreams about trading for a living one day. He clearly knows he has to put in a tremendous amount of hard work into it.  The question is “how could he find the time to put in the hard work?”

Have you ever heard of a successful part time day trader?  I have not.  “Part time” and ” successful day trader” are contradiction.  Simply put it this way. If he were successful, he would go full time.  Day trading requires one’s full attention.  He can not blatantly open a streamer at work unless he has a corner office.

One might think that he should quit his job so that he could devote all his energy and time practicing it.  This is not an easy decision to make.  He has all kinds of bills to pay and might have a few mouths to feed every month. How about health insurance? Health insurance is very expensive in the US. Canadians score 1 and Americans sore 0 here. If day trading does not work out for him after 3 years of dedicated practicing, his opportunity costs would be 210k. In addition, he might lose some money during these 3 years. All these factors will deter quite some aspiring day traders. For the most determined, a few of them will rise from the ashes eventually.

I hope I have scared you enough so that you would look at trading as a hobby, which includes swing trading while holding onto a full time day job.   If you are among those most determined and die hard aspiring day traders, I will talk about how to prepare for the first couple of years as a full time day trader.

A simple answer is the more, the better. Under capitalization is one of the major problems that traders have.  First of all,  trading is one of the most difficult professions on the earth due to its very high earning potentials.  If you have a few grand trying to make a living at it, then what I can tell you is that it is impossible.  You need at least 100k to even stand a chance to make a modest living if (a big if) you have the skills.

For example, your objective is to make 50k per year consistently, which is 50% of your 100k. A 50% annual return year over year WITHOUT compounding is very hard to achieve even for the most experienced traders.   With compounding, not even Warren Buffet could .  I believe Warren Buffet’s track record is perhaps around 15%-20% minus management fees with compounding.  Madoff’s “track record” was around 10% compounding. You know why I mentioned “Madoff” here.  Stay away from anyone who claims something like that.

As I always mentioned in the past, a few lucky shots or even a couple of years of lucky shots mean nothing to me. A trader must prove herself through at least one major crash like the dot come bust or the financial crisis that we just had, and a major bull market.  If you have gone through these cycles and still made some decent money, you are all set for the rest of your life since trading will never change.  It is this way today and was like that 100 years ago because it is all about human psychology.

A consistent 50% annual return without compounding is hard. But I believe a 30% without compounding is doable.  But 30% of 100K is only 30k. 30K is around the poverty line in the developed world such as the US, Canada or Japan.  But 30K packs a lot of purchasing power in a developing country like China.  The purchasing power of 30k US dollars in China is equivalent to 150k in the US and you do not have to pay taxes on capital gains. The beauty of trading is that you can do it wherever there is an Internet connection. I believe the income tax is around 17% in Hong Kong and 15% in Singapore. We will explore this option in another post.

So obviously 30k is not good in the US.  If you need to make 60k per year, you would need 200k trading capital. I am every bit against using leverage/margin.  So let’s not even go there.  If you have 1 million, you could make 300k theoretically provided you trade liquid stocks. That is one of reasons why I never trade those thin penny stocks.  The more liquid, the harder they are to trade such as GS, APPL, RIMM or GOOG because there are too many professionals in them. But you have to go compete with them head on.

Now you see why it is “the more, the better”.  But this does not mean people who are temporarily under capitalized should not even try.  You should.  But you should not focus on how much you can make in the first couple of years. Instead, you need to focus on your trading plan/system because all it matters in the end is your percentage.   If you could trade a 10k account well, you should do well with a 100k account.

In the stock market, you will want to invest in the sector leaders because you have a limited amount of capital and you would like to make the best use of it.  What characteristics does a sector leader possess?

1. A sector leader should have the best performance among its peers.
2. A sector leader should have liquidity so that it provides enough room for funds to buy in.
3. A sector leader is more resistant to doo-doo storms caused by the general market.
4. A sector leader should be good-looking, aka nice,clean and smooth charts (daily, weekly and monthly).
5. A sector leader almost always moves before its pack does.

A well known company’s stock does not necessarily become a sector leader becuase it might be alredy priced in.  Therefore, do not confuse companies with their stocks.  Here are a few real world examples from the solar sector and the coal sector. We will look at them one by one.

Solar Sector

As I mentioned on Twitter  last night.  If I should long the solar sector, I would pick TSL or STP instead of FSLR.  Their performance today manifested the importance of this rule.

Click on the images to have a better view
 

TSL

STP

FSLR

Coal Sector

The coal sector is kind of under pressure since China has slowed down stockpiling natural resources such as coal.  But it is not too hard to see that MEE and WLT are the sector leaders and PCX is a laggard.  I think WLT has the best potential since its uptrend is still intact.  MEE’s pull-back is a bit too deep, which requires some serious consolidation to drive out those trapped bulls. PCX has a very disgusting chart from a bull’s perspective.   Correct action should be shorting into the dead cat bounce when there is any weakness.   I will not go long until it breaks the dense congestion area(8-10) effectively.   On the flip side,  PCX has a very nice chart for the shorts.   I give them my due respect.

WLT

MEE

PCX

I can day trade anything that moves. I become somewhat picky when I look for swing trading targets. As a matter of fact, I do look at the fundamentals of a possible swing trading target albeit 75% of the decision making is still based on technical analysis.   When it comes to picking a stock for my retirement account, I become extremely picky. I can not or do not want to short the market (buy inverse ETFs) in my retirement account. Naturally, all my stocks are long.

What I look for in this type of investment grade stocks

1: Minimal Risk
2: Growth

To meet the 2 criteria above, I normally look at very large and well known companies such as Apple, Research In Motion, China Mobile and etc..  I will never buy small cap speculative growth stocks.  They are too volatile and risky.  I do not expect crazy returns from these stocks.  A 15-20% annual return with minimal draw-downs will make me very happy.

We had a bull run from 2003 to late 2007. That bull-run was propped by the housing bubble. And here we are at the 2002 level again today.  I believe it is worse than 2002 since we have added so many stocks since then.   Today’s 1800 is definitely not the same as the 1800 7 years ago.   The US market is too mature. There is no manufacturing left in the US thanks to outsourcing.  The banking industry has crumbled too.   There is nothing here left to grow.   Oh one thing that certainly grows fantastically is the money supply.  The Feds just prints it.  What I see in the US market for the next few years is that it is going to be a very boring market that chops around inside a big trading range.  It is actually fine for day trading and short term swing trading. But it will not be good for my retirement account for which I do use the buy and hold strategy.

Currently I am very interested in the Chinese stock market.  The whole country is growing. Their first stock market bubble has burst in 2007.  It crashed all the way from 6000 to 1700 within a year.  This reminds us of NASDAQ in 2001.  Although the crashes are similar I believe their recoveries will be different.  I think the SSEC (Shanghai Stock Exchange Composite) will reach 6000 again in the near future since they have real growth. Anyone who thinks that China is still communism is misinformed.  It is cutting-throat capitalism.  See the SSEC chart below.

 
The Chinese stock market is closed to the foreigners.  But we can still invest in the Chinese stocks listed here on the US market.

Here are the1st tier guys, which are monopolistic, massive, and still growing.  

China Mobile (CHL)
China Life Insurance (LFC)
Aluminum Corp of China (ACH)
China Petro and Chem Corp (SNP)
Baidu Inc(Bidu)

Here are the 2nd tier guys, who are smaller but with better growth.

Sohu.com (sohu)
Shanda Interactive Entertainment (SNDA)
Oriental Educ and Tech Group (EDU)
SunTech Power Holdings (STP)

STP is a little bit distressed now.  But it is the best solar company in China.