Methods and markets
Market is ever changing. Market is not predictable. Market is complex. Market offers too many choices. Market is not controllable. But methods are controllable. Methods can be constant irrespective of the market situations. Methods are under traders control. Your trading mix is completely controllable and that is the key to profitability.
In marketing there is a concept called marketing mix. The central hypothesis is that you can not control the consumer behaviour but what you can control is the marketing mix.
Same way your trading mix is completely under your control. The elements of trading mix are :
Market selection (equity selection in stock market case)
Entries selection
Exits selection
Risk selection
Like in marketing the product is critical no amount of price, promotion or place variable changes can substitute for poor product strategy. Similarly as a trader your most important decision is equity selection. Which stocks to trade is 80% of the solution to profitable trading success. That is why technical analysis often does not produce the desired results because it primarily deals with entry and exit selection.
In a complex market offering too many choices (around 8000 stocks), dynamically selecting the equities is the key. The dynamic selection should bring to your trading conveyor belt a series of best possible opportunities for given time periods.In a bear market or sideways market the method must select the best opportunities for that period dynamically. Similarly in a runaway markets it selects the best opportunities with runaway characteristics.
There are various way to select equities dynamically. But most of the one which work are based on some statistically proven anomalies. Traders may or may not be aware of them. No matter the markets certain things work. The amplitude of return might be different but few key anomalies work across market situations and across stock markets in various countries. The earnings drift is one such thing. Earning momentum is one such thing. Price momentum is one such thing. Neglected IPO effect is one such thing. Like this if you start focusing on finding anomalies, you will find around 50 such anomalies which have edge. Some highly secretive hedge funds and traders may have found even more.
While there is a belief amongst most traders that if you share you will lose your edge, it might be true of certain anomalies, but some of the robust anomalies just do not disappear. They have been written about for donkeys years and various explanations have been offered as to why they work, but they continue to work. Knowing does not translate in to profitability. Making these insights work is a craft.
Making Pizza is very easy but only certain pizza outlets are extremely successful. The ingredients of pizza are no secret, but the craft of making it differs and most very successful or famous pizza places have a small unique twist to the method, which makes them stand apart.
Similarly knowing a trading concept or method and making it work and making money out of that idea requires a trading craft. It might be qualitative pattern recognition or quantitative pattern recognition. Look around there are so many hedge funds (pizza shops), they use same ingredients, have similar calibre quants or technical analyst, they know most of these anomalies (having worked in investment banks before), yet some hedge funds (pizza shops) consistently do well while others struggle.
Converting idea in to profitable idea is the craft. One way to learn craft is by watching others who are more proficient at it. Deep knowledge works. Breaking down craft in to small units work. Mentoring works in high skilled professions. Crafts are difficult to transfer from one person to another. Transfer often requires an extended period of interaction between the two parties involved. Learning craft also requires extraordinary level of motivation and dedication and time efforts. Both the person imparting the skill and person learning it must have extraordinary motivation for the process to work successfully. Most successful traders may not want to commit that level of time to transfer craft unless they find someone with potential. That is why trading remains so difficult and elusive craft.
Every week I take my daughter to ice skating classes and watch some very skilled skaters and observe their training schedules and talk to some of them and their coaches. The efforts involved plus the cost involved are beyond what most people are willing to put in.
Day after day I trade the same set of methods which I have selected for my own kind of financial objective. None of them is secret all involve focusing on few (less than 100) stocks with outstanding earning surprise, earning momentum, sales momentum, or price momentum. Besides that I trade one neglected IPO's anomalies. By focusing and perfecting few it is now an automatic task. It is like chopping onions without looking at your fingers, the onion or the knife.
The markets change but methods remain same.
In marketing there is a concept called marketing mix. The central hypothesis is that you can not control the consumer behaviour but what you can control is the marketing mix.
Marketing decisions generally fall into the following four controllable categories:
* Product
* Price
* Place (distribution)
* Promotion
The term "marketing mix" became popularized after Neil H. Borden published his 1964 article, The Concept of the Marketing Mix. Borden began using the term in his teaching in the late 1940's after James Culliton had described the marketing manager as a "mixer of ingredients". The ingredients in Borden's marketing mix included product planning, pricing, branding, distribution channels, personal selling, advertising, promotions, packaging, display, servicing, physical handling, and fact finding and analysis.
These four P's are the parameters that the marketing manager can control, subject to the internal and external constraints of the marketing environment. The goal is to make decisions that center the four P's on the customers in the target market in order to create perceived value and generate a positive response.
Same way your trading mix is completely under your control. The elements of trading mix are :
Market selection (equity selection in stock market case)
Entries selection
Exits selection
Risk selection
Like in marketing the product is critical no amount of price, promotion or place variable changes can substitute for poor product strategy. Similarly as a trader your most important decision is equity selection. Which stocks to trade is 80% of the solution to profitable trading success. That is why technical analysis often does not produce the desired results because it primarily deals with entry and exit selection.
In a complex market offering too many choices (around 8000 stocks), dynamically selecting the equities is the key. The dynamic selection should bring to your trading conveyor belt a series of best possible opportunities for given time periods.In a bear market or sideways market the method must select the best opportunities for that period dynamically. Similarly in a runaway markets it selects the best opportunities with runaway characteristics.
There are various way to select equities dynamically. But most of the one which work are based on some statistically proven anomalies. Traders may or may not be aware of them. No matter the markets certain things work. The amplitude of return might be different but few key anomalies work across market situations and across stock markets in various countries. The earnings drift is one such thing. Earning momentum is one such thing. Price momentum is one such thing. Neglected IPO effect is one such thing. Like this if you start focusing on finding anomalies, you will find around 50 such anomalies which have edge. Some highly secretive hedge funds and traders may have found even more.
While there is a belief amongst most traders that if you share you will lose your edge, it might be true of certain anomalies, but some of the robust anomalies just do not disappear. They have been written about for donkeys years and various explanations have been offered as to why they work, but they continue to work. Knowing does not translate in to profitability. Making these insights work is a craft.
Making Pizza is very easy but only certain pizza outlets are extremely successful. The ingredients of pizza are no secret, but the craft of making it differs and most very successful or famous pizza places have a small unique twist to the method, which makes them stand apart.
Similarly knowing a trading concept or method and making it work and making money out of that idea requires a trading craft. It might be qualitative pattern recognition or quantitative pattern recognition. Look around there are so many hedge funds (pizza shops), they use same ingredients, have similar calibre quants or technical analyst, they know most of these anomalies (having worked in investment banks before), yet some hedge funds (pizza shops) consistently do well while others struggle.
Converting idea in to profitable idea is the craft. One way to learn craft is by watching others who are more proficient at it. Deep knowledge works. Breaking down craft in to small units work. Mentoring works in high skilled professions. Crafts are difficult to transfer from one person to another. Transfer often requires an extended period of interaction between the two parties involved. Learning craft also requires extraordinary level of motivation and dedication and time efforts. Both the person imparting the skill and person learning it must have extraordinary motivation for the process to work successfully. Most successful traders may not want to commit that level of time to transfer craft unless they find someone with potential. That is why trading remains so difficult and elusive craft.
Every week I take my daughter to ice skating classes and watch some very skilled skaters and observe their training schedules and talk to some of them and their coaches. The efforts involved plus the cost involved are beyond what most people are willing to put in.
Day after day I trade the same set of methods which I have selected for my own kind of financial objective. None of them is secret all involve focusing on few (less than 100) stocks with outstanding earning surprise, earning momentum, sales momentum, or price momentum. Besides that I trade one neglected IPO's anomalies. By focusing and perfecting few it is now an automatic task. It is like chopping onions without looking at your fingers, the onion or the knife.
The markets change but methods remain same.
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6 comments:
make anything of this:
Like many of you, I'm hearing lots of chatter this morning about the VIX which fell below 10 yesterday, moving it close to the all-time low of 9.3 in December 2003. Obviously, we all know that investors have a lot of confidence in this market and the VIX reflects that in spades.
The Vix has been in secular bear market since 2002.I think it has been making 52 week low for last 3-4 years.
Some years ago I used to track 24 indexes like these and was convinced of their utility.I was even convinced Vix was holy grail. Now days I have at best 3 things I monitor. My profitability has improved since then.
what do you monitor, if you dont mind my asking, and you dont mind sharing...
1 number of stocks up 50% or more in a month. Readings above 20 indicate extreme momentum often leading to reversals
2 Number of stocks up 25% or more in 65 days/ numbers down 25%. Readings of less than 50 are bearish. That means when you ave less than 50 stocks down more than 25%
3 Bonds , dollar and equity co relationships
thanks for sharing!
There are no secrets. I just like keeping things simple. Most methods sold as proprietary indicator or some super secret sauce for calling market tops/corrections use some very simple logic.
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